ANNEXES INDONESIA S TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES. A project implemented by TRANSTEC & EQUINOCCIO

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1 ANNEXES A project implemented by TRANSTEC & EQUINOCCIO INDONESIA S TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES Team Leader: Montague LORD Expert 2: Rina OKTAVIANI Expert 3: Edzard RUEHE November 2010 This report was commissioned and financed by the European Communities. The views expressed herein are those of the Consultants, and do not represent any official view of the Commission.

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3 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 91 A. FISHERIES

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5 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 93 A. 0. Executive Summary In the last decade, the expansion of international trade in fishery products has exceeded the growth in total fish production in the world. This rapid expansion reflects the large increase in consumption of marine products in the EU and US markets as well as many other regions of the world like Asia. Among these fast-growing markets, the European Union is not only the world s largest market, but it is among the fastest growing markets for high-value imports like shrimp, tuna, bass and bream. The prospects for these markets continue to be favorable. Overall, the outlook for the global fishery market is robust, and our medium-term forecast is for EU imports to growth by 8 percent annually. For Indonesia, the rapid expansion of the global fishery market and the European Union s strong market for high-value imports offers a number of excellent opportunities. In the first place, the industry has the chance to reverse the EU market share losses it suffered in the last decade because of external competition from large exporters like Ecuador and China, as well as the internal inertia in addressing EQI hindrances and trade impediment. Secondly, Indonesia s exports could be increased in terms of traditional exports and diversified into various other fish species and processed products that are in high demand abroad, for example, the main exports from aquaculture are shrimp (unfrozen, frozen and canned), crabs (unfrozen, frozen and canned), frog legs (fresh or chilled), ornamental fish (freshwater and mariculture), mollusks (scallops and snails), including capture products like tuna, jelly fish and coral fish as well as fish fat and oil and shrimp crackers. A third opportunity lies in aquaculture growth and development, where opportunities exist for community-based economic activities and rural development, along with greater foreign exchange earnings from exported aquaculture products. Given that two-thirds of Indonesia s territory consists of marine and inland waters with an abundance of natural resources, the development of aquaculture and sustainable capture fisheries has the potential to make the fisheries industry a leading engines of growth and development for the country. The risks to programs aimed at promoting Indonesia s fishery exports are capacity and institutional constraints at the industry level and exchange rate policies at the macroeconomic level. There are two pressing problems that are internal to the industry. The first is capacity limitations of institutions providing EQI and the resulting limitations that these inadequacies create for fish and fishery exporters attempting to meet EU market access requirements. The issue has been made all the more

6 94 important as large multinationals and some nationally large private retails in Europe introducing their own standards for food safety and quality, environmental sustainability, and social consciousness. In large part, these initiatives reflect the growing concern of the general public and the retail sector in Europe about overexploitation of fish stocks, and the need for certification of aquaculture in general and of shrimp in particular. The second issue is the lack of adequate coordination and collaboration among central and provincial government agencies and the armed forces in regulating the industry and policing EEZ waters to prevent IUU fishing. The Ministry of Marine Affairs and Fishery (MMAF) has been appointed by the European Union as the Competent Authority for fishery products in Indonesia. In order to establish the status and the efficient functioning of the MMAF as the Competent Authority it must be ensured that all tests used for conformity assessment provide reliable test results that are internationally recognized. Exporters of fishery products rely on test and inspection facilities as well as on the proper application and supervision of suitable quality ensuring practices during the entire supply chain. The efforts of the MMAF in recent years to improve the quality relevant elements have been very successful and have lead to a drastic reduction in the number of rapid alerts issued by the European Union. However, certain non-price constraints on Indonesia s exports of fishery products persist. They can be grouped into five categories: (1) insufficient competence in the fishery laboratories and inspection bodies to achieve international quality standards, (2) lack of traceability in the fishery supply chain at the level of farmers and fishery vessels, (3) shortcomings in the implementation and certification of Good Aquaculture Practice and Good Handling Practice in the supply chain, especially at the level of MSEs, (4) weaknesses in the quality management systems of the MMAF and (5) weaknesses in the information flow to SMEs. While the challenges to the fishery industry appear wide-ranging, the dominant impediments to greater EU market access are concentrated on the supply side. The exchange rate pass-through into the export price of Indonesia in the EU market has been large, but their impact on EU demand for Indonesian fish and fishery products has not significantly impacted trade. In fact, our estimates found that the real cross-rate between the euro and the rupiah has not been statistically significant in determining the EU demand for Indonesian fish and fishery products. Instead, non-price factors appear to have consistently undermined Indonesia s exports to the EU market. These non-price factors reflect (1) supply-chain weaknesses in both internal and external production processes affecting quality levels; (2) inadequate networking capabilities needed to ensure appropriate export services to foreign markets; (3) weak coordination between national, provincial and law enforcement authorities to control IUU fishing; and (4) EQI impediments to EU market access. Efforts to remedy these impediments will require concerted action on: (i) improvements in the performance of those authorities responsible for testing and inspection required for the issuance of health certificates, (ii) traceability improvements in the supply chain, (iii) support to MSEs and SMEs to improve Good Handling Practices and Good Aquaculture Practices, (iv) strengthening support for the management of the MMAF and (v) strengthening support for industry associations. In an effort to address these issues, the present document suggests some areas of intervention that can be integrated within the Government s strategy and action plan for the industry. They are grouped into broad action areas covering (1) planning and developing the fishery industry; (2) promoting the fish processing industry; (3) strengthening quality control laboratory facilities; (4) combating IUU fishing; (5) lowering costs of shrimp production; (6) developing a stronger image, market information and export promotion strategy, (7) and overcoming EQI impediments to market access.

7 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 95 A.1. Introduction A.1.1 Objective and Coverage The present Annex on fisheries is one of five industry-specific annexes prepared for the study on Indonesia s Trade Access to the European Union: Opportunities and Challenges. It provides a selfcontained analysis of the fishery industry and its export potential in the EU market. It has three specific objectives. First, it seeks to identify Indonesia s export opportunities in the EU fishery market, based on the industry s competitiveness and market growth prospects. Secondly, it identifies challenges to the realization of Indonesia s export potential in terms of EU market entry requirements, export quality infrastructure (EQI), the conduciveness of trade policies and regulations, and support being provided to the industry. Finally, it points out a few general recommendations on actions that support the achievement of the industry s export potential to the EU market. This report consists of the following parts: A.1.2 Chapter 1 presents an overview of the fishery industry in terms of its importance to the Indonesian economy and the pattern of its export development. It also covers the strengths, opportunities, weaknesses and threats (SWOT) facing the industry s development, especially as it relates to Indonesia s exports to the EU market. Chapter 2 analyzes the European Union s market for fishery products and Indonesia s competitiveness in that market. It begins by examining the market in the European Union and assessing its growth prospects. It then examines the major factors determining Indonesia s competitiveness relative to other developing country exporters to the EU market. The chapter ends with an analysis of the relative importance of price and non-price factors in explaining Indonesia s changing market shares in the EU market, and how remedial actions addressing non-price factors could impact on Indonesia s export prospects. Chapter 3 covers EU market access requirements and existing conditions in the Indonesian fishery industry. It examines internal and external constraints along the value chain, especially for small and medium size enterprises (SMEs), the existing EQI system in the industry and support services being offered to enterprises, and trade policies and regulations affecting the industry. Chapter 4 presents a summary of the findings on the Indonesian fishery industry, and it draws on this information to recommend specific actions needed to fully realize the country s export potential in the EU market. Importance of the Industry Fish Processing Activities: Fisheries is classified as part of the animal food-producing sector and covers finfish, mollusks, crustaceans and any aquatic animal that is harvested. 1 As capture fisheries declines, an increasing proportion of stocks are being farmed. Fish farming is the principal form of aquaculture and is the fastest growing animal-food producing activity. It now accounts for roughly one-half of all fishery production 2. Somewhat over three-fourths of global fishery production is destined for human consumption, and the remaining amount is used for the production of fishmeal and fish oil. About one-half of all fish destined for human consumption is in live and fresh forms, and the other half undergoes some degree of processing. About three-fourths of all processed fish is in the form of frozen, cured and prepared or preserved products. Freezing is the main method of processing fish for food use, accounting for one-half of total processed fish for human consumption, followed by prepared and preserved fish (about 30 percent), and cured fish (20 percent). Indonesia capture fisheries contribute about 60 percent of the gross value of fishery output, and aquaculture accounts for the remaining share. Of the total fishery supply, marine fish account for over 1 Throughout this report, the term industry and sub-sector are used interchangeably and both refer to a subset of activities of the sector to which the industry belongs. 2 Food and Agricultural Organization (FAO) of the United Nations, The State of World Fisheries and Aquaculture (SOFIA). Available:

8 96 60 percent of the total, crustaceans represent 12 percent and mollusks 3 percent. The remaining products are classified as miscellaneous aquatic animals 3. Aquaculture in Indonesia is practiced in fresh, brackish and marine water using a variety of species, production facilities and methods. Ten years ago, this type of fisheries contributed less than 19 percent of total output; today its contribution is estimated at well over 40 percent (Figure A1.1). Processing Industry: Modern processing units in Indonesia generally process products for export. They include shrimp, tuna and skipjack, fish fillets, tuna loin and tuna steak. There are several processing operations that have good potential, including (a) freezing, cold storage and ice production; and (b) product processing with value added, to meet the increasing market demand for fishery products that are ready to cook (so-called convenience products). Examples Figure A1.1: Growth of Indonesia s Aquaculture and Captured Fisheries Output Source: FAO Fisheries and Aquaculture Information and Statistics Service. of these products are Individual Quick Frozen (IQF) products, shrimps, breaded fish, and fish balls. Basic processing activities involve simple methods of transformation, such as filleting, salting, canning, drying and fermentation. More advanced value-adding activities involve the preparation of convenience foods and a wider variety of high value-added products in fresh, frozen, breaded, smoked or canned forms. These high value-added activities require sophisticated production equipment, processing methods and, consequently, substantial capital investment. Importance of Fishery Industry: Fish is a staple food in the diet of Indonesian families, and about 90 percent of the country s total fish production is consumed domestically. The remainder is destined for external markets. Although frozen forms of fish and crustaceans dominate exports, Indonesia is increasingly supplying processed products to overseas customers. Globalization of fishery value chains is also growing fast, and large retailers are increasingly controlling international distribution channels. A growing number of producers in Indonesia and other developing countries are therefore linking their export-oriented fishery products with firms located abroad. Outsourcing of processing operations is also spreading quickly. For example, whole fish from the European Union are being sent to Asia, particularly China as well as India and Viet Nam. These countries fillet and package the product and then sell it back to European distributors. The major impediment to outsourcing to processing operations in Indonesia is sanitary and phytosanitary (SPS) requirements in the EU and other developed market. As Indonesian processing facilities gear up to meet quality and safety standards in Europe, their lower processing costs will compare favorably with EU fisheries that face reduced margins from higher capital and labor costs and the growing scarcity of fish stocks. Employment and SMEs Approximately 90 percent of Indonesia s fishery industry can be classified as small-scale industry 4. Fishery activities in Indonesia are highly labor intensive and the country ranks among those having the largest number of fishers and fish farmers, the other countries being China, India, Philippines and Vietnam. More than 2.7 million of Indonesia s population is directly involved in capture fisheries, and another 2.5 million is directly employed in aquaculture activities. Fishery production is concentrated in Java (67 percent of total country area), followed by Sulawesi Aqua-culture Capture Fisheries Based on information derived from FAO - Fisheries and Aquaculture Information and Statistics Service. Available: fishery/statistics/en. 4 Food and Agricultural Organization (FAO) of the United Nations, Information on Fisheries Management in the Republic of Indonesia. Available:

9 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 97 Figure A1.2: World s Top Fisheries Producers and Exporters, 2009 (Percent of world) Top Producers Top Exports China 5.5% China 12.2% Indonesia 5.5% Norway 11.9% India 4.7% USA 6.3% Peru 4.6% Canada 5.2% Japan 3.5% Chile 4.8% Philippines 3.1% Thailand 4.4% USA 3.0% Denmark 3.5% Chile 3.0% Sweden 3.4% Viet Nam 2.9% Indonesia 3.1% Thailand 2.4% Russia 3.1% 0.0% 15.0% 30.0% 0.0% 15.0% 30.0% Source: FAO Fisheries and Aquaculture Information and Statistic Service and United Nation, COMTRADE database (10 percent) and Sumatra (9 percent). 5 Small-scale fish farming in these areas is concentrated in freshwater ponds (54 percent), followed by paddy fields (24 percent), brackish water ponds (16 percent), mariculture (4 percent) and floating cage culture (2 percent). 6 Because of the high participation rate of labor in all types of fishery activities, the Government of Indonesia has placed a high development priority on fishery sector in terms of its national goals for employment creation and poverty alleviation. Types of Fishery Exports Indonesia s largest category of seafood exports is frozen or prepared crustaceans, which mainly consists of shrimp, crabs, lobsters and prawns. These products account for 43 percent of the country s total exports of fishery products (Figure A1.3). Another 36 percent of Indonesia s seafood exports consists fish exports. The forms of these exports are divided fairly evenly into fresh or chilled, frozen, prepared and fillet fish. Among individual product exports, shrimps account for 31 percent of all fishery exports and other forms of crustaceans, consisting of crabs, lobsters and prawns, contribute another 19 percent. Tuna accounts for 16 percent of all exports, and other fresh, frozen and processed fish represent 22 percent of the total. Internationally, shrimp, both farmed and wild- Figure A1.3: Indonesia s Types of Fishery exports (percent of total exports) Crustaceans, frozen Crustaceans, prepared Fish, fresh or chilled Fish, frozen Fish, prepared Fish fillets Other Source: United Nation, COMTRADE database 0% 10% 20% 30% 5 Based on data from Badan Pusat Statistik of the Republic of Indonesia. Available: subyek=56 6 In brackish water culture, most (55 percent) of the households involved in fish farming have less than 2 hectare, while 27 percent have 2-5 hectares, 12 percent have 5-10 hectares and only 6 percent have more than 10 hectare of land. In freshwater culture, 64 percent of households in fish farming owned less than 0.1 hectare, 22 percent owned between hectares, 9 percent owned between hectare and only 5 percent owned more than 0.5 hectare. For details, see Food and Agricultural Organization (FAO) of the United Nations, National Aquaculture Sector Overview: Indonesia. en#tcna0052.

10 98 caught, is the highest value seafood export, accounting for 16 percent of worldwide exports of all fishery products. Major Fishery Export Markets The European Union is the world s largest importer of fishery products, accounting for 25 of the world total. Yet the EU market only accounts of 11 percent of Indonesia s total exports (Figure A1.4). The United States and Japan each account for a much lower share (16 percent) of total world imports. Nonetheless, Indonesia exports 35 percent of its fishery products to the United States and another 27 percent to Japan. There is considerable scope for Indonesia to increase the amount that it exports to the EU market. If it were to expand its share of exports to the EU market to the same proportion as the European Union s share of world imports, Indonesia s foreign exchange revenue from its fishery exports would more than double, expanding from US$253 million to US$561 million in terms of the value of those exports in Major Global Competitors - China has dominated the global seafood markets for both processed and unprocessed fish since In addition to exports from domestic fisheries sources, China also exports reprocessed imported raw material, adding considerable value Table A1.1: Indonesia Major Fisheries Products, 2009 Million US$ Percent Shrimps and prawns, frozen % Crustaceans, prepared or preserved % Tunas, whole or in pieces % Fish meat, frozen % Tunas, fresh or chilled % Other fish, frozen % Other fish, fresh or chilled % Tunas, frozen % Cuttlefish, octopus and squid, frozen % Other crustaceans, frozen % Flat-fish, frozen % Fish, live % Fish, dried % Flat-fish, fresh or chilled % Salmonidae, frozen (excluding livers % and roes) Herrings, sardines, whole or in pieces % Other 2, % Note: Fishery products are covered under Standard International Trade Classification (SITC) 03. Source: United Nations, COMTRADE database in the process. Today, China retains 12 percent of the world seafood market (Figure A1.5) 7. Indonesia ranks number 10. Other major exporters are Norway (15.5 percent), the United States (6.1 percent), Canada (5 percent), Chile (4.6 percent), Thailand (4.3 percent), Netherlands (3.6 percent), Denmark (3.4 percent) and Sweden (3.2 percent). Figure A1.4: Distribution of Indonesia Fishery Export by Major Market in 2009 Figure A1.5: World s Top Fisheries Producers and Exporters, 2009 (Percent of world) Singapore 3.3% Thailand 2.7% 12% China 5.8% Other 26.4% United Kingdom 2.6% 8% Japan 26.9% EU 11.3% Belgium 2.2% Netherlands 1.9% 4% USA 35.0% Germany 1.7% Italy 1.1% France 1.1% 0% China Norway USA Canada Chile Thailand Netherlands Denmark Sweden Indonesia Source: United Nations, COMTADE database Source: United Nation, COMTRADE database 7 Statistics reported by China have been subject to question since the early 1990s, which puts into question the reliability of global estimates. For details, see FAO, Fisheries Production Statistics. Available:

11 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 99 A.1.3. SWOT Analysis Box A1.1 summarize the strengths, weaknesses, opportunities and threats (SWOT) of Indonesia s fishery industry. The focus of the analysis is areas where there is a need for change to ensure that Indonesia realizes its export opportunities in the EU fishery market. The key issues arising from the analysis are as follows: Large untapped potential exports to EU market. Exports could be increased in terms of traditional exports and diversification into various other fish species and processed products that are in high demand abroad. Indonesia could reverse EU market share losses by addressing EQI hindrances and trade impediments. Indonesia lacks an export promotion strategy that would lead to a greater access to the EU market.

12 100 Box A1.1: Strengths, Weaknesses, Opportunities and Threats (SWOT) of Indonesian fisheries industry Supply Chain Structure and Functioning EU Market MSEs and SMEs Institutional Framework Strengths Large fishery processors are able to supply quality products to EU buyers. Low-cost labor. Large number of suppliers available system of collectors (middlemen) available Indonesia s climate supports shrimp farming Large number of fishery laboratories exist Some fishery laboratories have satisfactory results Competent non-fishery laboratories available for cooperation (e.g. BBIA, private laboratories) Weaknesses Poor quality of domestic brood stock undermines survival rates & quality of output. Cost of shrimp feed is higher relative to other countries. Poor manage-ment practices at the farm level undermine shrimp-farm productivity. High production costs. Weak image and poor market information about Indonesian products on the part of European consumers. Lack of export promotion strategy to enhance EU market access. Increased competition from other major suppliers like Ecuador, China and Vietnam. Pricing and weaker currencies have eroded Indonesia s EU market share. Most farmers do not have sufficient information about Good Aquaculture Practice and EU requirements Antibiotics still used by farmers Hygiene on fishing vessels often insufficient Weak enforcement of product and process standards, technical and other regulations. Poor coordination and collaboration among central and provincial authorities and law enforcement agencies. Insufficient control of farmers, fishing vessels, ports and landing sites. Insufficient competence of many fishery laboratories and inspection organizations Insufficient metrology & traceability of fishery laboratories. Opportunities Certification of farmers will increase traceability. Certification and monitoring of middlemen will increase traceability Indonesia could reverse the EU market share losses of the last decade due to external competition from large exporters and internal inertia in addressing EQI hindrances and trade impediment. Indonesia s exports can be both increased in terms of traditional exports and diversified into various other fish species and processed products that are in high demand abroad. Large opportunity aquaculture growth and development Large untapped potential exports to EU market. Existing cooperative and farming groups allow easy access to farmers by processors and distributors Potential for improvement of GAP Farmers are eager to learn New MMAF organizational structure improve the control system for fishery export Restructuring of laboratories system under MMAF can improve efficiency and quality Associations as AP5I and shrimp club can support farmers and processors. Seafood Service Center has capabilities to support MSEs and SMEs. Laboratories like BBIA, BPMEI, fishery disease laboratories of MMAF and private laboratories can be included in the laboratory network for health certificates Anticipated 8 percent annual growth of EU imports. Shrimp is Indonesia s leading fisheries export and it is also one of the European Union s largest imports. Capacity limitations of institutions providing EQI and the resulting limitations that these inadequacies create for fishery exporters attempting to meet EU market access requirements. Competitiveness of local producers/ exporters may decline Farmers do not have sufficient financial basis for their regular business Confidence in MMAF may deteriorate Potential widening of import restrictions by European Union Threats Lack of adequate coordination and collaboration among central and provincial government agencies and the armed forces in regulating the industry and policing EEZ waters to prevent IUU fishing. Indonesia s real exchange rate has appreciated relative to comparator countries in the industry. For European importers, these differential movements have made Indonesia s fishery products more expensive than those of other third country suppliers.

13 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 101 A.2. Indonesia s Export Competitiveness In The EU Market A.2.1. EU Market Development and Prospects The European Union is, by far, the world s largest importer of fishery products. In 2009 total EU fishery imports reached US$17 billion, while US and Japanese imports were each US$11 billion. Despite the predominance of the European Union in the global market, Indonesia exports much less to the EU market than it does to the United States and Japan. In 2009, for example, fishery exports to the European Union were US$193 million, whereas exports to the United States reached US$534 million and those to Japan were US$519 million. The European Union s trade deficit in fishery products has been growing rapidly, and in the last ten years it as doubled (Figure A2.1). In 2009 the European Union imported US$17 billion worth of fishery products, which represented 2.5 times the volume of domestic production. Net imports in that year supplied one-half of domestic consumption. 8 Those fishery imports are mainly in the form of processed fish, followed by fresh or chilled fish and crustaceans (Figure A2.2). 9 Together these three types of imports account for 75 percent of all fishery imports. By itself, processed fish represents one-third of all fishery imports. It comprises fresh, chilled or frozen fillets of swordfish, salmon, trout, coalfish, haddock, herring and mackerel. Within these different product types, Indonesia mainly exports fish meat. The most important fishery products imported into the European Union are shrimp and salmon, followed by cuttle fish, octopus, sturgeon, cod and scallops (Figure A2.3). Together these products account for nearly 80 percent of all fishery imports into the EU market. In 2009 Indonesia accounted for 6 percent of frozen shrimp supplied by foreign countries to the EU market. The major foreign suppliers of fishery products to the European Union are Norway (24 percent of total imports in 2009), China (10 percent), Iceland (7 percent), Vietnam (6 percent), and the United States (5 percent). Together these five countries accounted for one-half of total EU imports in In frozen shrimp, the major suppliers are Ecuador (14 percent of total imports in 2009), India (13 percent), Argentina (12 percent), Bangladesh (9 percent), Thailand, Vietnam and China (each with 6 percent shares). Together these seven countries supply two-thirds of the EU market. Indonesia is the tenth largest supplier of frozen shrimp and has a 4 percent market share of the EU market. The markets for fish and crustaceans like shrimp are highly price competitive, and some countries have a competitive advantage because of preferential tariff rates under free trade arrangements (FTAs) with the European Union, or under the unilateral instrument of GSP plus, 10 or the Everything But Arms (EBA) arrangement that include duty-free and quota-free access for products originating in Least Developed Countries (LDCs). Indonesia is a GSP beneficiary with preferential duties on Figure A2.1: EU Imports and Exports of Fisheries Products, (Billion US dollars) $17 -$11 Figure A2.2: EU Fishery Imports by Type, 2009 (billions of US$) Fish fillets and other fish meat $5.6 Fish, fresh or chilled $3.5 Crustacean $3.2 Molluscs $2.0 Fish, frozen $1.7 Fish, dried, salted or in brine $1.0 Live Fish $ $5 Source: United Nations, COMTADE database Source: United Nations, COMTADE database 8 Imports relative to consumption data from Food and Agricultural Organization (FAO) data on supply and distribution of fishery products. Available: C 9 Under the harmonized system (HS), the fisheries subsector consists of chapter 3 (Fish and crustaceans, mollusks and other aquatic invertebrates) and part of chapter 16 covering prepared or preserved fish (1604) and crustaceans (1605). 10 Includes Ecuador, Colombia, Costa Rica, Guatemala, Honduras, Sri Lanka, Paraguay, El Salvador, and Venezuela. For the full list of countries qualifying for GSP+ status in , see 091:EN:PDF

14 102 fisheries. The GSP rates range from a low of zero for some products to a high of 18 to 19.5 percent in the case of some products like fresh, chilled or frozen sardines, some tunas like long-finned and yellow-fin tuna, and skipjack or stripe-bellied bonito. 11 Overall import growth of the fishery sector in the last decade has average 8 percent a year. Aboveaverage rates have been achieved in processed fishery imports, which expanded by 50 percent more than the average of all import fishery imports. In contrast, live, fresh and chilled fish and crustaceans have grown at much lower rates. The fastest growing product-level imports are fish and shellfish in their frozen form, including coalfish, eels, albacore, scallops, trout, mackerel, sardines and crabmeat. Imports of fresh and chilled yellowfin tuna have also expanded greatly in the last decade, averaging 38 percent a year. The yellowfin tuna habitat is in tropical and subtropical seas, and is absent from the Mediterranean Sea. Indonesia has the world s largest catch of this species. Figure 2.3: EU Imports of Top 10 Fishery Products, 2009 (million US$) Figure A2.4: EU Fishery imports, actual and forecast Frozen shrimps Salmon, fresh/chilled $2,360 $2,727 7 < Actual > < Forecast > Cuttle fish & squid $772 $650 $509 $383 $306 $287 $279 $226 Fish, various Octopus Smelts, sturgeon Cod salted or in brine Billion US dollars 5 Percent Aquatic invertibrates Dried cod Scallops Source: United Nations, COMTRADE database. Source: Projections by the Study Team based on econometric estimates and assumptions about economic activity from IMF, World Economic Outlook database. The European Union s demand for fishery imports largely reflects its strong response to changes in consumer incomes. Our estimates show that a one percent increase in real GDP of the EU market as a whole has produced a 4.5 percent expansion in fishery imports. Based on these estimates, and expectations about the medium-term prospects for economic growth in the European Union, we expect fishery imports to grow by a robust annual average of 8 percent. Figure A2.2 provides a visual representation of the forecast of total EU fishery imports through The forecasts are based on assumptions about real GDP growth, fishery prices and exchange rates are taken from the International Monetary Fund s biannual projections. 12 They forecast GDP to grow by 1 percent in real terms in 2010 and by another 1.3 percent in After 2011 a moderate 2 percent annual real GDP growth is assumed. We assume unchanged constant euro prices for the products and an average exchange rate of US$1.3 per euro over the medium term. A.2.2. Indonesia s Export Competitiveness Indonesia s competitiveness in the EU fishery market, like in other foreign markets, is largely determined by four interrelated conditions: (i) export prices relative to those of competing suppliers to the market; (ii) the magnitude and type of accessible demand; (iii) accessibility and reliability of supporting industries; and (iv) firm strategy and rivalry that affect how various enterprises conduct business Based on data provided to the Study Team by the European Commission. 12 See International Monetary Fund, World Economic Outlook Update. July Available: weo/2010/update/02/index.htm. 13 These conditions are often referred to as the Competitiveness Diamond developed by Michael Porter, Competitive Advantage of Nations. Free Press, 1998.

15 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 103 Change in EU Fisheries Market Share, Figure A 2.5. Changes in Real Cross-Rates with Euro and Share of EU Fisheries Market, % Vietnam China 40% Vietnam: Real cross-rate = 111 China: Real cross-rate = 133 Market share = 9.5% Market share = 5.6% India 15% Chile Thailand Argentina -10% United States Indonesia Bangladesh -35% -60% Canada Real Cross-Rate with Euro in 2009 (2000 = 100) Table A2.1: Export c.i.f. Price of Fisheries of Top Developing Country Suppliers to EU Market, Shrimp & Other Crustaceans Fresh & Chilled Fish China Canada India Ecuador Russia Vietnam Source: Calculated from IMF, WEO database, and EU, Eurostats. Export Prices: Foreign demand for Indonesia s fishery exports is determined by the rupiahdenominated price of exports. From the point of view of European buyers, that price is denominated in euros. The price differential between Indonesia s exports and those of other competitors to the EU market therefore depends on the product price in each supplying country and the cross exchange rate between the rupiah and the euro, adjusted for inflation in each country. The demand for fishery exports of Indonesia is therefore determined by both the real cross-rate of Indonesia s domestic currency relative to that of the European Union, and the foreign rupiah-denominated export price. 14 Macroeconomic conditions determine the real cross-rate, while industry-specific conditions in Indonesia determine the rupiah-denominated price of fishery products. For the first of these determinants, Figure A2.5 shows the relation between changes in the real cross-rate in Indonesia and other major suppliers to the EU market and changes in their market shares. What is most striking about exchange rate developments in the last decade is Indonesia s loss of one-third of its market share, a situation that has paralleled the rise in the real cross-rates of Indonesia relative to many competing suppliers to the EU market. Notable among the competing suppliers is China, whose undervalued currency has made its products highly price-competitive in the EU market. Its share of the EU market has grown from 5 percent in 2000 to 9.5 percent in A similar situation occurred with Vietnam, whose market share rose from 1 to 5 percent in the same period. In contrast, Indonesia maintained a relatively stable currency so that the rupiah remained nearly unchanged in real terms vis-à-vis the euro. Its share of the EU market fell as a result of the appreciation of its currency relative to that of other countries. The exchange rate differential have therefore significantly undermined the price competitiveness of Indonesia s fishery exports in the EU market relative to the same products exported by competing suppliers to that market. Figure A 2.6 Price and Non-Price Factors Impacting on Indonesia s Shares of EU Fisheries Market, % 5% The industry-specific conditions affecting the rupiah-denominated price of fishery products are largely associated with labor and infrastructurerelated costs. The cost structure of the fishery industry is reflected in the nominal unit price of product exports in the industry s relatively -5% -15% Relative export price effect Non-price effect Source: Derived from Study Team estimates The real bilateral exchange rate takes the relative price of tradable and non-tradable products as an indicator of a country s competitiveness level in the foreign trade. The rationale behind this definition is that the cost differential between trading countries are closely related with the relative price structures in their economies. Mathematically, the real exchange rate, r, is defined as r = Pt/Pn = ep*/pn, where Pt and Pn represent the price of tradable and non-tradable products, e is the nominal exchange rate, and P* is the international price of tradables.

16 104 competitive global market. 15 Indonesia has a cost advantage in its proximity to large marine and fishery resources and its abundant labor supply, which helps to offset shipping costs to the EU market. Table A2.1 shows the average export price of Indonesia and other foreign suppliers to the EU markets. In shrimp and crustaceans, Indonesia ranks near Thailand in terms of its price competitiveness, but well below China, Canada, India, Ecuador, Russia and Vietnam. In fresh and chilled fish, Indonesia is the highest priced supplier among the comparator countries. These price variations could reflect differences in the product composition of the two groups, as well as quality differences. The more important measure of competitiveness is the impact that those prices have had on the demand for Indonesia s exports, that is, whether changes in the price of Indonesia s exports have affected the EU demand for Indonesian exports relative to that of competing suppliers to the market. This issue is examined in the next section of this chapter. Demand Conditions: Links to overseas consumers exist for some exporters of fishery products that operate in direct collaboration with larger suppliers. Examples are fresh and frozen tuna exporters that operate their own fleet have contract supply arrangements with long line fleet operators, and shrimp processors with a vertically integrated farming operation linked to export activities. These exporters are regulated by the Ministry of Fisheries and Marine Affairs (MMAF), which classifies fish Box A2.1 Competitive Analysis of Indonesian Fisheries Industry Strengths Weaknesses Pricing Conditions Proximity of marine resources. Abundance of low-cost labor. Rapid development of fish farming has led to more stable supplies for processors. Cost-reducing firm strategies enhance price-competitiveness. Increased pre-export processing. Price volatility associated with shifts in supply and demand conditions. Real effective devaluations by competing suppliers to EU market. Strong competition from low-cost producers in other countries. High costs and delays in the transportation and import/export clearance process. Demand Conditions Increased demand for fish varieties available in Indonesia. Increasing use of EU-consistent technical and phytosanitary standards. Increased product innovation by larger processing companies. Limited diversification due to specialized activities of fishing vessels and fish farming. Small producers lack quality standards. Inconsistent quality standards. Shifting consumer preferences and uncertainty surrounding those changes. Industry Networking Networking among processing firms. Close linkages in downstream activities of larger firms. Strong support from Government Lack of clusters of smaller fishing enterprises. Weak linkages to trucking, logistics, warehousing, software, banking and finance. Insufficient capital investment and low labor skills relative to other major foreign suppliers. Conditions for Conducting Business Strong competitive environment Incentives to introduce innovation and branding. Diversification in aquaculture has increased market opportunities. Lack of properly defined industry strategy. Lack of coordination among central and local government agencies, business sector. Difficulties in meeting international needs in technical & phytosanitary standards. Lack of timeframe for trade policy adjustments. Source: Based on Competitive Diamond analysis (see Michael Porter, Competitive Advantage of Nations. Free Press, 1998). 15 In a competitive market, the firm or industry as a whole will select an output level that equates its marginal cost with its export price.

17 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 105 processing operations of enterprises based on their compliance with Good Manufacturing Practices (GMP) and Hazard Analysis Critical Control Points (HACCP) standards. Only establishments that are classified as A are permitted to supply the EU market. In recent years, the industry has been successful in promoting greater domestic processing for export markets. In 2008 regulations promoting domestic fishery processing where issued by the Minister of Marine Fisheries Decree 05/2008 and the Directorate General of Fishery Products Processing and Marketing Decree No 33/2008. This action followed intense lobbying by fish processing and exporting companies in an effort to reduce the large volume of unprocessed fish exported directly by foreign vessels fishing in Indonesian waters. 16 Industry Networking: The fishery industry is composed by the formal sector that operates in a regulated market and often supplies the more than 700 fish processing enterprises in the country. 17 Those processing units include eight fish canneries and about 50 processors or fresh and frozen tuna products. Other types of enterprises are primarily fish freezing, salting and drying processors. For the large number of small vessels and aquaculture producers, there are large numbers of domestic traders and distributors who reconcile domestic and export market with the supplies of fishery products originating from widely dispersed fishery and landing sites. Based on export orders received from their clients, they source the appropriate species, quantities and qualities of their products through their network of suppliers. These so-called middlemen are not regulated or recorded, but form an essential economic activity in the fishery industry. Conditions for Conducting Business: There is a relatively high degree of competition among the larger fish processing firms and that competition is reflected in firm strategies to increase the volume of fish processing within Indonesia. Strong competition from other foreign suppliers like China, Vietnam, and Ecuador and the costs of switching export markets has intensified efforts to retain or expand existing overseas markets. There is little opportunity for enterprises to switch from one type of product within the marine industry to another, either for primary suppliers or processors. For the small producers, the large number of enterprises competing for customers gives rise to considerable rivalry. High storage costs and perishability of marine products intensifies competition for customers. A.2.3. Opportunities to Regain Market Shares Figure A2.7: Actual and Potential Export Earnings from Remedial Supply-Side Measures in Fisheries Industry, Additional Export Revenue from Supply-Side Measures Actual Revenue Percent Revenue Gain Indonesia s share of the EU market has steadily declined since It began the decade with 5.9 Source: Estimated from study team calculations percent of total EU imports from third countries and it ended the decade with a 4.1 percent share. Our estimates suggest that those losses were largely due to non-price factors associated with supply impediments like EQI limitations (Figure A2.6). 18 Export price movements had a positive effect on Indonesia s market shares in the first half of the decade, and a significantly negative impact in Exchange rate pass-through caused by The regulations may not be WTO-compliant as it could be interpreted as possibly incorporating a de facto ban on fisheries export by foreign entities, insofar as foreign companies would need to establish fish processing plants. 17 This section draws on European Commission, Fisheries Partnership Agreement FPA 2006/20. Annex 5: Indonesia Case Study. Brussels, FPA 15/IUU/ Non-price factors (including but not exclusively EQI) are equal to the changes in exports not explained by income and price changes. That s the way it was calculated and that s normall the way that the intercept is interpreted. However, in our case, we broke down the non-price factors further by including a trend variable to capture secular changes that could or could not be associated wtih EQI. Because of the attribution uncertainty, it was decided not to report the secular (trending) estimates.

18 106 the real cross-rate appreciation of the rupiah relative to the euro was not found to have significantly impact on Indonesia s competitiveness in the EU market. Non-price factors, however, had a consistently negative impact on Indonesia s competitiveness through the decade. That negative impact was especially noticeable at the beginning of the decade and in On average, the nonprice effects on Indonesia s export competitiveness in the EU market more than offset improvements in the relative price of the products themselves, thereby producing an overall reduction in Indonesia s share of EU imports from third countries. To the extent that Indonesia could have overcome its supply impediments on exports and maintained its 5.9 percent share of the EU fishery market that it reached at the beginning of the decade, foreign exchange revenue from the industry would have been nearly 20 percent higher in 2009 than was actually achieved. Figure A2.7 summarizes those calculations. It shows that especially during the Global Financial Crisis of , the additional revenue from supply-related adjustments could have been 18 to 35 percent greater than actual export earnings in the fishery industry. Overcoming those obstacles will require considerable effort on the part of the industry, particularly for EQI requirements. However, the benefits to the industry are considerable, as are the economy-wide impact that would be produced from additional employment and expenditures on downstream and supporting industries. Without those EQI constraints and assuming that all other price and nonprice factors were the same as other suppliers, Indonesia s exports would increase by the same proportion as those of EU imports for fisheries, that is, the same as our forecast of 8 percent annual growth of EU fishery imports from third countries.

19 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 107 A. 3 Challenges for Realizing Indonesia s Exports Potential A.3.1. EU Market Access The key elements of the regulatory environment for the fishery industry are as follows: Common Fishery Policy: The Common Fisheries Policy (CFP) is the fishery policy of the European Union. It sets quotas on the amounts of each type of fish that member states are allowed to catch. The CFP currently has four components: (i) regulation of production, quality, grading, packaging and labeling; (ii) encouraging producers organizations intended to protect fishermen from sudden market changes; (iii) setting minimum fish prices and financing buying up of unsold fish; and (iv) setting rules for trade with non-eu countries. Under the Common Organization of the Markets (COM), a system of trade creation with third countries allows the Box A3.1: EU Market Access in Fisheries Tariffs: MFN GSP Average Maximum Minimum Product-Specific Requirements: Control over illegal fishing. Health control of fishery products intended for human consumption. Health control of fishery products intended for animal consumption. Labeling requirements. Rules of origin. Sources: Tariffs provided by European Commission, Trade Directorate; requirements from EC Helpdesk. fish-processing industry to be supplied in a stable manner at competitive prices from countries like Indonesia. The intent is to ensure price stability and guarantee fair prices to producers. EC Support to the Domestic Fishery Industry: EC support for the sustainable development and structural adjustment of the fisheries and aquaculture subsector is provided through the Financial Instrument of Fisheries Guidance (FIFG) (structural measures in the fishery and aquaculture subsector). Assistance is specifically granted for the restructuring of fishing fleets, aquaculture, processing and marketing circuits, port facilities, and the revitalization of areas that depend on fisheries. There is also a Common Market Organisation (CMO) in Fishery and Aquaculture Products that provides financial compensation, carry-over aid, and private storage aid to members of the CMO. It also provides compensatory payment for the domestic tuna industry. Control over Illegal Fishing: Beginning 1 January 2010, a certification scheme applies to marine fishery products. 19 It does not, however, include aquaculture products like freshwater fish and ornamental fish. Otherwise, imports of fishery products must be accompanied by a catch certificate to demonstrate that the products concerned do not originate from Illegal, unreported and unregulated (IUU) fishing. The certificate must be submitted by the importer to the competent authorities of the EU member country to which the product is destined at least three working days before the estimated time of arrival at the place of entry into the EU territory. Beforehand, the certificate must be validated by a public authority in the home country of the fishing vessel that caught the fish to ensure that fishing vessels flying its flag comply with international rules on conservation and management of fishery resources. The competent authorities of the EU member country can carry out all of the necessary verifications to ensure the legality of the products. 20 For Indonesian exporters shipping fishery products to the EU markets, the following are the specific market access requirements: European Commission, Commission Regulation (EC) No 1010/2009 of 22 October 2009 laying down detailed rules for the implementation of Council Regulation (EC) No 1005/2008 establishing a Community system to prevent, deter and eliminate illegal, unreported and unregulated fishing. Available: 20 It is important to note that each establishment does not have to be visited and inspected by the European Commission. Instead the European Commission relies on a list of approved establishments provided by the Competent Authorities of Indonesia (MMAF). 21 The following information draws on material available at the European Commission s Helpdesk for developing countries. Available:

20 Tariffs: For fishery products, the average MFN rate is 10.8 percent, with a range of 0 to 23 percent; the average GSP rate is 7.1 percent, with a range from 0 to For crustaceans, an ad valorem tariff of 11.1 percent applies to third countries, with a range of 6 to 18 percent; the preferential tariff rate for GSP recipient countries is 5.1 percent, with a range of 2.1 to 14.6 percent. Between 2003 and 2008, Indonesia was the beneficiary of an annual tariff quota of 2,832.5 tons of canned tuna exports to the European Union. Under that quota, Indonesia was required to provide an accompanying certification of origin in compliance with article 47 of Regulation (EEC) No. 2454/93. The duty applicable was 12 percent. Since 2009, the applicable tariff has reverted to that of the most-favored nation (MFN) at a rate of Under that system, certification of origin is not required. 2. Specific requirements cover (a) control over illegal fishing; (b) health control of fishery products intended for human consumption; (c) health control of fishery products intended for animal consumption; (d) labeling requirements; and (e) rules of origin. (a) Control on illegal fishing: As mentioned above, Fishery products must only be imported into the European Union when accompanied by a catch certificate as laid down in Council Regulation (EC) No 1005/2008, establishing a Community system to prevent, deter and eliminate illegal, unreported and unregulated (IUU) fishing. Foreign suppliers must therefore submit a catch certificate drawn up in accordance with Annex II of the IUU Regulation or Annex IV of its implementing Regulation. It should be submitted by the importer to the competent authorities of the Member State in which the product is intended to be imported, at least three working days before the estimated time of arrival at the place of entry into the territory of the EU. The certificate should be validated by a public authority of the flag State of the fishing vessel which caught the fish concerned, in line with its duty under international law to ensure that fishing vessels flying its flag comply with international rules on conservation and management of fishery resources. The acceptance of catch certificates validated by a given flag State must be subject to the condition that the Commission has received a notification from the flag State concerned certifying that: (i) it has in place national arrangements for the implementation, control and enforcement of laws, regulations and conservation and management measures which must be complied with by its fishing vessels; (ii) its public authorities are empowered to attest the veracity of the information contained in catch certificates and to carry out verifications of such certificates on request from the Member States. The competent authorities of the Member States may carry out all of the verifications they deem necessary to ensure the legality of the products concerned. (b) Health control of fishery products intended for human consumption: Imports of fishery and aquaculture products intended for human consumption must comply with general health requirements related to (i) country health approval; (ii) approved establishment; (iii) health certificates; and (iv) health control. (i) Country Health Approval: The European Commission s Health and Consumer Protection Directorate General (DG SANCO) applies a procedure to assess the candidate s third country compliance with EU Public and Animal Health conditions in which one of the steps is an on-site review by a team of experts of the Food and Veterinary Office (FVO). Once approved, the third country is added to the list of authorized countries for that particular category of product. 23 (ii) Approved Establishments: In addition to country approval, fishery and aquaculture products may only be imported into the EU if they have been dispatched from, and obtained or prepared in, establishments (cold store, process plant, factory vessel, 22 Based on data provided to the Study Team by the European Commission. 23 The positive lists of eligible countries are published in Commission Decision 2006/766/EC and for a transitional period established under Commission Regulation (EC) No 2076/2005.

21 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 109 registered freezer vessels, production areas, and others) that appear on a list approved by the Health and Consumer Protection Directorate General (DG SANCO). 24 (iii) Health certificates: Imports of fishery and aquaculture products into the EU must be accompanied by a health certificate signed by the representative of the competent authority of the exporting third country certifying that the products in question are suitable to be exported to the EU. When fishery products are imported directly from a fishing or freezer vessel, a document signed by the captain may replace the health certificate. (iv) Health control: On arrival, the products and the accompanying certificates must be verified and checked by the veterinarian officials, applying the procedures given down by various EC regulations. Fishery products can only be imported into the European Union if they come from an approved establishment of a third country included in a positive list of eligible countries for the relevant product, are accompanied by the proper health certificates, and have succeeded the mandatory control at the pertinent Member State s border inspection post (BIP). Fresh fishery products landed in the EU directly from a fishing vessel flying the flag of a third country are subject to a different scheme of health control laid down in Annex III of Regulation (EC) No 854/2004 of the European Parliament and of the Council. The European authorities might suspend imports from all or part of the third country concerned or take interim protective measures when products may present any risk for public or animal health as in the case of dangerous diseases outbreaks. (c) Health control of fishery products not intended for human consumption: Imports of fishery and aquaculture products not intended for human consumption into the European Union must comply with general conditions of public and animal health designed to guarantee a high level of health and safety throughout the food and feed chains and to avoid the spread of infectious diseases which are dangerous to animals or humans. These products can only be imported into the European Union if they come from an approved establishment of a third country included in a positive list of eligible countries for the relevant product and are accompanied by the proper health certifications. However, the European authorities might suspend imports from all or part of the third country concerned or take interim protective measures when products present any risk for public or animal health. The general health requirements applicable to these products are related to (i) country health approval; (ii) approved establishments; (iii) health certificate; and (iv) health controls. (i) Country Health Approval: The European Commission s Health and Consumer Protection Directorate-General (DG SANCO) applies a procedure to assess the candidate s third country compliance with EU Public and Animal Health conditions. Once approved, the third country is added to the list of authorized countries for that particular category of product. (ii) Approved Establishments: In addition to country approval, fishery and aquaculture products not intended for human consumption may only be imported into the EU if they have been dispatched from, and obtained or prepared in, approved establishments: processing and storage, oleo chemical, biogas and composting, pet food and technical plants, production areas, and others. (iii) Health Certificate: Imports of these products into the EU must be accompanied by a health certificate signed by the representative of the competent authority of the exporting third country certifying that the products in question are suitable to be exported to the EU. 24 Lists of third countries establishments and areas approved for fishery products and live bivalve molluscs can be found in the Health and Consumer Protection Directorate-General (DG SANCO).

22 110 (iv) Health Control: On arrival, the products and the accompanying certificates must be verified and checked by the veterinarian officials. 25 (d) Labeling for fishery products: Product labeling applies to processed fish foodstuffs and to fishery products. (i) Processed fish foodstuffs: Fishery products marketed in the European Union are subject to the general labeling rules for foodstuffs, general labeling rules for fishery products and specific labeling rules for certain fishery products subject to harmonized marketing standards. Labels of foodstuffs from fisheries must contain the following features: (a) the name under which the product is sold and details about to the physical condition of the product or the specific treatment it has undergone (e.g., freeze-dried, deep-frozen, smoked) must be included where omission of such may confuse the purchaser (b) the net weight of pre-packaged products; (c) the date of minimum durability consisting of day, month and year in that order and preceded by the words best before or best before end or the use by date according to product characteristics; (d) any special conditions for keeping or use; (e) the name or business name and address of the manufacturer, packager or seller established in the European Union; and (f) lot marking on pre-packaged product with the marking preceded by the letter L. Besides these mandatory rules, there is also additional information that may be included by the manufacturers on a voluntary basis provided that it is accurate and does not mislead the consumer. For example, nutritional labeling is not obligatory unless a nutritional claim is made on the label or in the advertising material. In this case, nutritional claims must comply with a standardized format. (ii) Fishery Products: The following information must be provided on the labeling or packaging of the fishery product, or by means of a commercial document accompanying the goods: (i) commercial and scientific designation of the species. For this purpose, EU member countries publish a list of the commercial designations accepted in its territory; (ii) production method (caught at sea or in freshwater, or resulted from aquaculture) indicated by the harmonized terminology; (iii) catch area, that is, whether caught at sea, caught in freshwater, or reference to the country of origin, and for aquaculture, reference to the country in which the product is farmed. 26 (e) Rules of Origin Applicable to GSP Status: All fishery products should be wholly obtained in the originating country, that is, Indonesia. A.3.2. Value Chain Analysis The value chain of the fishery industry can be described in terms of the activities (added value) undertaken by the various participants, such as wild catch, farmers, middlemen and processors. Box A3.2 illustrates the value chain for the fishery process. It shows the relationships between the various participants within the value chain and illustrates the flow of goods: from raw material supply to the final export product. Depending on the product two different value chains are applied. One value chain starts at the sea and is called wild sea catch and the other starts at fish or shrimp farming. The most important export product from wild sea catch is tuna although various fishery products are also caught. The two most important export products generated by farming are shrimp, milk fish and the tilapia fish. 25 In accordance with the provisions laid down in Council Directive 97/78/EC (CELEX 31997L0078), and applying the procedures laid down by Commission Regulation (EC) No 136/ Additionally, specific labeling rules for certain fishery products are as follows: (a) country of origin in Roman letters at least 20 mm high; (b) scientific name and trade name; (d) presentation; (e) freshness and size categories; (f) net weight in kilograms; (g) date of grading and date of dispatch; (h) name and address of consignor. Lots must contain products of the same size and uniform freshness. The freshness category, size category and presentation must be clearly and indelible marked, in characters of at least 5 cm high, on labels affixed to the lot. The information provided by labels must be easy to understand, easily visible, clearly legible and indelible and must appear in the official language(s) of the Member State where the product is marketed.

23 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 111 In both value chains the product is collected by middlemen, also called collectors, and sold to the fishery processors. However, some fish processors buy the fish direct from farmers or fishing vessels. The fishery processors prefer direct purchasing as long as the supplier can provide sufficiently large amounts of products. Fresh tuna is always purchased direct from the fishery vessel as the freshness has to be guaranteed and the fish transported immediately. Most fishery processors export their products themselves without involving traders. Box A3.2: General Fishery Process Flow Wild Catch Export of fishery products to the European Union requires health certificates for each shipment. The Indonesian government is responsible for Export issuing health certificates. The European Union has appointed the Indonesian MMAF as the Competent Authority (CA). The structure of the Competent Authority (CA) in the MMAF that issues the certificate is discussed in the following sections. Then the processes and quality issues of the entire value chain of fishery processing are discussed with a special focus on shrimp farming and processing. The case study presented is related to fish farming and processing. A Structure and Responsibilities of the Competent Authority Collecting by Middleman Processing Farming The food quality system in the Indonesian fishery sector is controlled by the Indonesian government, represented by the MMAF, and is based on agreements between Indonesia and relevant export countries such as the European Union, the United States and Japan. The structure of the Competent Authority in the MMAF described in this chapter has recently been changed. An overview on the new structure can be found in section The Directorate General of Fishery Products Processing and Marketing (DGFPPM), as part of the Competent Authority (CA), is primarily responsible for the implementation of the legislation related to food quality assurance and the food safety management of fishery products of Indonesia. The Approval Commission is responsible for providing recommendations for approval and the issuing of certificates. Certification is conducted for Good Aquaculture Practice (GAP), Good Handling Practice (GHdP), Good Manufacturing Practices (GMP) and Hazardous Analysis and Critical Control Point (HACCP). Laboratories conducting the tests required for the health certification for fishery products are supposed to be accredited by the Indonesian accreditation body KAN covering the scope of tests performed. Currently 25 laboratories of the 32 laboratories issuing health certificates are accredited. The remaining seven laboratories are in the process of accreditation. The Competent Authority on the control of Quality and Safety Assurance of Fishery Products in Indonesia is the DGFPPM as stipulated in the Ministerial Regulation 01/MEN/2007 laying down the Control of Fish Quality and the Safety Assurance System. The CA delegates its authority of official control to the Directorate General of Aquaculture Fisheries (DG-A). This delegated authority includes the verification of compliance by drug monitoring and the installation inspection of aquaculture farms from hatcheries to the harvest of aquaculture products. For the verification of compliance with requirements regarding wild sea catch involving fishing vessels, freezer vessels and the unloading process from fishing vessels, the CA delegates its authority of official control to the Directorate General of Capture Fisheries (DG-CF). The DGFPPM verifies the compliance of requirements regarding landing areas, transportation, processing and the distribution of fishery products. The CA assigns various tasks related to official control, including inspection, sampling, laboratory testing, surveillance and certification, to the designated Provincial

24 112 Fishery Services and Provincial Laboratories and other bodies. The CA carries out verification of the implementation of the specific tasks delegated to DG-A, DGC-F, Provincial Fishery Services, Provincial Laboratories and other bodies in order to guarantee national uniformity and coordination. A Fishery Production Process and Export Quality Infrastructure Box A3.3 describes the value chain including the testing and inspection elements of the export quality infrastructure. Step 1 Sea Wild Catch Box A3.4: Wild Catch Flow Process Description (Box A3.4): Sea wild catch is the process of catching fish in the open sea. The catch is then stored in ice, sometimes with added salt to further decrease the temperature, and transported to the harbor or landing site for unloading and distribution. The catch is sold at auction or direct to the processor. Tuna is the most important wild catch export product for the European market, but also some other fish species are exported to Europe. The Indonesian fishing fleet consists mostly of small fishing boats. However, seven large freezer vessels are operating in Indonesia. On these freezer vessels the catch is processed on board ready for export. EQI Issues: Quality issues in wild catch are mostly related to temperature and hygienic conditions on board the vessels and at the harbor. On the fishing vessel it has to be ensured that the temperature is always kept close to the temperature of melting ice. Such low temperatures are achieved by using ice or cool storage. It must be avoided that fishery products come into contact with bilge water, sewage, oil, grease and fuel. Equipment and surfaces coming into contact with products should be made of corrosion-resistant material that is easy to clean and to disinfect. Fishing ports and landing sites must be maintained in hygienic conditions. An EC mission final report recommends that sanitary requirements for unlisted fishing vessels providing raw material to the EU listed establishments should be equivalent to the Community ones including HACCP programs. The mission reported cases with insufficient inspection of vessels providing raw material to processors for export to the European Union. At present only a small percentage of the operating fishing vessels are inspected by the relevant Indonesian authorities. Records on fishing vessels are also not sufficient at central and provincial level. Block ice factories supplying fishery vessels sometimes do not have the necessary sanitary standards. 27 MSEs: Quality issues found on small fishing boats are mostly related to hygienic and temperature control. Small fishing boats have problems in complying with the strict hygienic requirements due to insufficient knowledge on hygiene and limited space on the boats. Proper storage of the catch with ice is usually not ensured and hygienic conditions are uncontrolled and therefore not achieved. Conclusion: Quality and food safety improvements are necessary in fish vessels, fishing ports and at landing sites. Inspection of these facilities by the CA needs to be improved. Step 2 Shrimp Farming: Hatchery, Nursery and Grow Out Process Description (Box A3.5): Three different kinds of shrimp farming are performed in Indonesia: extensive farming, which is also called traditional farming, semi-intensive farming and intensive farming. Of the two major species of shrimps that are farmed in Indonesia vannamei is produced Fishing Storage (in Ice) Transportation to Harbour Processor Processing Collector/ Middle Man 27 Final report of a mission carried out in Indonesia from to in order to evaluate the control system in place governing the production of fishery products intended for export to the European Union, DG(SANCO)/ MR-FINAL, eu/food/fvo/ir_search_en.cfm

25 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 113 Box A3.3: General Fishery Quality Flow Registration & Inspection Medicine Distribution Feed Production & Distribution Registration & Inspection Inspection Wild Catch Farming (GAP) Inspection NRCP Collection by Middlemen Inspection NRCP Rejected Freshness (antibiotics) Processing GMP, HACCP Inspection Rejected Sampling/ Testing by Laboratories, Health Certificates Issuing of Health Certificate RAS EU Border Inspection Market Distribution RAS Market Surveillance Consumer in intensive and semi-intensive farming, while the black tiger shrimp is usually grown in traditional extensive farming. In traditional farming the shrimp is often farmed together with fish like milk fish. The process starts in the hatchery where the larvae are hatched to the post-larvae status. During the next step, in the nursery, these post-larvae are grown to juveniles within three weeks. In a last step shrimps are grown to maturity during the grow-out phase. The shrimps are then harvested and transported to a collector. Grow-out operations are classified by stocking densities (the number of seed stock per hectare) and called extensive (low stocking density), semi-intensive (medium stocking density), intensive (high stocking density) and super-intensive (highest stocking density). As densities increase, the farms are smaller, the applied technology becomes more sophisticated, capital costs increase and production output per unit of space increases drastically. Farmers conducting extensive farming usually do not feed the shrimps and do not use pumps and aerators but rely on tide changes. In semi-intensive farming pumps are used for water circulation. In intensive farms the ponds are actively managed including aeration and high water exchange to remove waste products and maintain

26 114 Box A3.5 Shrimp Farming Process Feed Feed Hatchery Nursery water quality. Intensive feeding of specially designed diets is conducted. EQI Issues: In hatcheries Good Hatchery Practice (GHcP) is applied to ensure that the fish from hatcheries are free of antibiotics and healthy. Specific Pathogen Free (SPF) fry and Specific Pathogen Resistance (SPR) fry can be purchased from the hatcheries. Feed Grow-Out Harvesting To ensure the quality and food safety for aquaculture products farmers are required to implement Good Aquaculture Practice (GAP). 28 The aim of GAP is to grow and harvest the products in a controlled environment by rigorous control of sanitation as well as controlled application of feed, fish drugs, chemicals and biological substances in aquaculture. GAP includes the Collecting & Transport development and use of Standard Operation Procedures (SOPs) regarding pond preparation, seed stocking, feeding, fish health monitoring, feed management, and record keeping. GAP certification can be achieved through the Directorate Production of Directorate General of Aquaculture of MMAF. The presence of antibiotics in fishery products is still the major issue regarding export to the European Union. This is indicated by a 20% border inspection for aquaculture products which is imposed by the European Union for exports of aquaculture products from Indonesia. 29 The most important link in the chain of custody of antibiotics is the farming as antibiotics are frequently applied here. Good monitoring and control of the farms will be required to cope with this problem. Farms are spread over a large area and are partly located in remote areas. Additionally, it is almost impossible to trace the shrimps back to the point of farming due to the collection system employed, which involves middlemen. National Residue Control Plan: The Directorate of Fish Health and Environment in the Ministry of Marine Affairs conducts the National Residue Control Plan (NRCP). The Directorate has a Residue Control Team, which does the sampling and provides guidance to the farmers. The team is supported by regional Residue Control Teams in the provinces of the 17 main aquaculture production areas. Samples are taken for testing from shrimp and tilapia farms depending on the amount of export content (1 sample per 100t export per year). The samples are tested in laboratories. However, implementation of the monitoring plan in MMAF has still some limitations. A recent EC mission to Indonesia found shortcomings in planning, implementation and its supervision, and follow-up of NRCP non-compliances. 30 Planning was found to be deficient in the number of samples used, adaptation to previous non-compliances, and the lack of validation in the analytical methods used. Planning implementation had shortcomings in the frequency of samples taken during the year, delayed submission of samples to laboratories, and prolonged storage of samples. Supervision of NRCP implementation was not considered to be effective since no corrective actions were being taken to sample submission delays, and some samples were not being analyzed. Only limited preexport testing of some veterinary medical products was performed, and follow-up procedures were not always implemented in line with national instructions. The NRCP shortcomings observed during the EC mission are one reason leading to the imposition of border inspection in the European Union on 20 percent of the products sent from Indonesia. MSEs: Extensive traditional farming is usually done by small, family sized businesses. The small farmers lack information on Good Aquaculture Practices and Good Handling Practices, which results 28 See Decree Kep 02/MEN/ See (Commission Decision C(2010) 2358) 30 See Final Report of a mission in Indonesia in order to evaluate th control of residues and contamination in live animals and animal products, including controls on veterinary medical products, November/December 2009, DG(SANCO) MR FINAL

27 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 115 in shortcomings in hygiene and sanitation in the farming process as well as in the transport of the shrimp. Farmers do not control the water quality (salinity, ph, and dissolved oxygen) in their farms resulting in low survival rates. Transport of the shrimp from the farmer to the middlemen is often conducted in containers with unhygienic conditions and without the required cooling by the application of ice. Conclusions: (1) Competence of Farmers: The competence of a large number of fish and shrimp farmers is insufficient in the following areas: production process control, knowledge of diseases and disease prevention, antibiotics, application of medicines and feed, applicable Indonesian and EU regulations, GAP and the handling of products. Systematic flow of information to the small farmers is not provided resulting in insufficient knowledge on Good Aquaculture Practice and Good Handling Practices. (1) GAP Certification of Farms: GAP implementation and certification will improve the health situation in the farms and will therefore ensure that the farmers attain the required product quality. At present GAP is only implemented in a few farms. Specifically the farmers operating on a small scale still lack knowledge on GAP. MMAF is currently implementing programs aimed at these farmers to achieve GAP certification. Competence of inspectors is apparently not sufficient. Improvement of inspection skills and technical knowledge of GAP is required. It appears that the management system of the Directorate of Production in the MMAF needs to be improved to ensure control of the GAP certification process. It is proposed to integrate the management system for GAP certification into the already established quality management system ISO (1) National Residue Control Plan: The management system of the NRCP in the Directorate of Fish Health and Environment requires improvement, especially with regard to the recording system of the NRCP. Cooperation and communication with the provinces could be enhanced. Step 3 Feed Production and Distribution Process Description: In intensive farming feeding is the most important factor in aquaculture farming. In intensive shrimp farms over one-half of the production costs are spent on feed. As extensive farms have low stocking densities, feeding is usually not required. However, some extensive farmers use small amounts of feed and fertilizer to stimulate a natural food chain. EQI Issues: The Directorate of Production, Directorate General of Aquaculture is in charge of the feed supply control as well as the control of distribution and usage of fish feed. Control is carried out in accordance with the government regulation Per02/MEN/ types of feed are currently registered by 20 feed providers. However, plenty of feed available in the market is still uncontrolled. Conclusions: Comprehensive feed control is not achieved yet by the Directorate General of Aquaculture. Uncontrolled feed is still available and applied. Cooperation between the national authorities and the local authorities, which do the feed monitoring in the provinces, could be improved. Step 4 Veterinary Medicines Process Description: Various medicines including antibiotics are used in fishery farming to prevent or treat diseases. By December products have been registered by 12 manufacturers of drugs and chemicals. These 12 manufacturers are licensed by the Directorate General of Aquaculture. However, many unregistered products from unlicensed producers can be found in the market. The use of veterinary medicine is supposed to be controlled by the Directorate for Fish Health and Environment within MMAF in accordance to government regulations KEP.26/MEN/2002 and KEP.20/ MEN/ See Decree of Minister of Marine Affaires and Fishery Per02/MEN/2010 concerning feed production and distribution. 32 See Decree of Minister No. KEP.26/MEN/2002 regarding Supply, Distribution, Use and Control of Fish Drugs, the Decree of Minister No. KEP.20/MEN/2003 regarding Fish Drugs Classification and Minister Regulation No. PER.15/MEN/2007 pertaining Requirements and Procedures of Fish Drugs Business License Publication.

28 116 EQI Issues: The application of antibiotics for disease prevention in fishery farming appears to be the significant quality obstacle in veterinary medicine for fish farming. Two major problems have been observed in this regard: (1) The control of drugs and chemicals conducted by the MMAF is still insufficient and (2) it is not ensured that all farmers and medicine distributors have information concerning EU regulations and restrictions on antibiotics. Conclusion: Antibiotics are still used in fish and shrimp farming. The knowledge of farmers about antibiotics and restrictions is insufficient and the control of drugs in fishery farms applied by the MMAF has shortcomings. Step 5 Collection by Middlemen and Transport to Processor Process Description: Shrimp farms are usually located in remote areas and most processors do not regard it as economically viable to collect directly from the small farmers. Therefore middlemen, also called collectors, do the collection. The harvested shrimps are either brought to the collection point of the middlemen by the farmers or are collected by the middlemen directly from the farmers. In any case cooling boxes with ice are only used occasionally during transport. The middlemen visually check and sort the shrimps according to quality and sell them to the processors or in a local market. EQI Issues: At present the collection and transport of shrimp and fish from farms is conducted under uncontrolled conditions. The required cooling chain is not properly implemented and it is still common practice by farmers and collectors to increase the weight by storing the shrimp in water (without ice) over several hours (which can increase the weight by up to 10 percent) Middlemen collect shrimps from several farmers and usually mix the products from different sources making traceability impossible. It appears that the middlemen are most likely the weakest actor in the supply chain in regards to quality assurance. This fact was also detected by the EU mission The MMAF promotes the handling of the fishery farming products by the application of Good Handling Practices. Despite the fact that middlemen have been advised to implement GHdP in some areas it is obvious that the implementation of GHdP is still weak and control of the MMAF is insufficient. MSEs: Most middlemen are basically family run MSEs. Hygiene and food safety is still unsatisfactory at the middlemen level. Good Handling Practices is not implemented, ice is not sufficiently used and the weight of the shrimp is increased on purpose by storing the product in water without ice. No systematic information flow to the middlemen is established resulting in insufficient knowledge of Good Handling Practices. Conclusion: GHdP is not well known and not applied by the middlemen and the chain of custody ends at these middlemen. Traceability cannot be achieved due to the common practice of unrecorded collection and mixing of products. The MMAF and the local authorities have also identified the control of the middlemen as a main focus for improvement in the future. Step 6 Processing Process Description: Shrimp products for export are frozen shrimps with value added modifications. Typical added value products are breaded shrimps or peeled shrimps, head off shrimps, and semi-peeled shrimps where the last part of the shell at the tail is still attached to the shrimp. The main activities in shrimp processing are washing, peeling, cutting, packing and deep freezing. These production process steps are supported by quality assurance measures such as incoming inspection, in-process inspection, checking of products with a metal detector, and final inspection. EQI Issues: Companies exporting to the European Union need a Company Approval issued by the European Union. Currently 149 exporters are registered and approved. Processing companies exporting to the European Union are required to implement Good Manufacturing Practices (GMP), certified with the Sertifikat Kelayakan Pengolahan Grade A (SKP A) and have to be certified for Hazardous Analysis and Critical Control Point (HACCP). The fishery processors are also required to conduct second party audits on their suppliers and must ensure traceability to their sources of raw material.

29 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 117 Quality and food safety has to be controlled at all relevant steps in the production process. Critical control points within fishery processing are commonly related to (1) incoming inspection, (2) hygiene in production area, (3) temperature control, and (4) detection of metal pieces in the product. (1) During incoming inspection of the supplied fishery product the freshness of the products is checked visually. Antibiotics in shrimps can be detected with the fast screening Elisa method. At present only large companies can afford to purchase Elisa equipment and it is consequently very difficult for the smaller processors to detect antibiotic residues at incoming inspection. (2) Hygiene is an important factor in any food processing industry. Therefore fishery processors have to ensure clean and hygienic conditions and ensure that all persons working in the production area wears plastic boots, special clean clothes and a head cap or hood. Regular hand washing is mandatory. Some companies even use rollers and special blowers to remove dust from the coats before entering the processing area. (3) Temperature has to be controlled during the entire production process. Storage of products in ice during the entire processing process must be ensured as well as deep-freezing below -18C for finished product. (4) Products are not allowed to contain any metal pieces. Metal detectors are used at the final inspection to ensure that any metal containing product is sorted out prior to packing. Fishery processors are required to audit their suppliers in regard to GHdP focusing on hygiene, proper storage and recording for traceability. It has been observed that such second party audits are rarely performed and do not provide sufficient evidence of the use of antibiotics at the farmers end since most processors buy the shrimp from middlemen and consequently audit these collectors. At present most fishery processors lack sufficient knowledge and experience in conducting the required supplier audits. To summarize the observed EQI issues at fishery processors it can be stated that the proper application of the required GMP and HACCP is not entirely ensured. The EU inspection mission conducted in 2009 revealed shortcomings in hygiene and sanitation issues in several companies. One obstacle appears to be the insufficient competence of the auditors deployed by the local authorities to conduct the certification audits. Fishery processors also frequently face additional requirements from their buyers. Buyers request additional system certifications such as ISO 22000, Food Safety, Quality and Food Defense Audit (NSF international), BRC Global Standard for Food Safety (BRC), and Marine Stewardship Counsel (MSC) audit on sustainability of sea catch. The expenses for such audits and certifications can add up to several thousand Euros, even up to Euro per year. SMEs: SMEs are in a very difficult situation to cope with all the stipulated requirements due to the complexity and the required level of knowledge and experience with HACCP and GMP and the financial means required. Additionally small producers to not have direct access to information on EU regulations and the information channels from the MMAF to the companies are too slow. Conclusion: Three main areas of shortcomings have been identified: (1) control of the shrimp processing at company level (2) control of supplier through second party audit and (3) competence of auditors acting under the provincial authorities. Despite the fact that all fishery product processors exporting to the European Union apply certified HACCP and GMP systems, shortcomings in hygiene and sanitation are still evident and second party audits on their suppliers (middlemen and farmers) are not or not properly conducted. The competence of auditors deployed by the local authorities to conduct the certification audits is insufficient. Step 7 Issuing of Health Certificates Process Description: Health certificates for export to the European Union are issued by the provincial fishery laboratories, which are under the authority of the Provincial Governments.

30 118 EQI Issues: Fishery products can only be imported into the European Union if they are accompanied by the proper health certificates. The health certificate issued by the provincial authorities certifies that the product has been produced in accordance to the requirements of EU regulations. 33 Health certificates are issued based on the following requirements: Implementation of Good Manufacturing Practice (GMP) / Sertifikat Kelayakan Pengolahan Grade A (SKP A) Implementation of HACCP Internal audits and second party audits of suppliers Traceability of product External audit / inspection by the Competent Authority and local inspectors Catch certificate for sea catch Test certificate The health certificate is issued based on these documents, which are the result of testing and inspection. At present the competent authority is in the process of shifting the quality and food safety system from end-product control (testing of export goods) to in-process control based on the monitoring and inspection of implemented management measures. Step 8 Border Inspection Process Description: Upon arrival the products and their accompanying certificates are verified by officials at border inspection points (BIP). In depth inspections of products, including quality tests, will be performed in a proportion of cases. EQI Issues: The frequency of the border inspections depends on the risk profile of the product and also on the results of previous checks. From 2006 to 2008 a 100% border inspection had been conducted in the European Union for fishery products from Indonesia.34 The European Union decided on that samples are taken and tested from at least 20% of the aquaculture product consignments imported from Indonesia. 35 The reason for this border inspection are shortcomings in the National Residue Control Plan, fishing vessels and some listed establishments in Indonesia. The consignments are only released after the tests for the detection of residues of antibiotics have shown that they comply with EU regulation. 36 All expenditure incurred is charged to the consignor or the consignee and is currently about Euro 3,000, which must be regarded as a serious burden to Indonesian exporters. Step 9 Post market Surveillance Process Description: EU member countries perform regular post market surveillance. The result of this surveillance may yield to increased border inspections or full border inspections. The European authorities might even suspend imports from all or part of the third country concerned or take interim protective measures when products may present any risk for public or animal health - as in the case of dangerous diseases outbreaks. EQI Issues: European Authorities rejected Indonesian fishery exports over the years for several reasons. Table A3.1 shows the number of and the reasons for rejections between 2005 and In 2005 and 2006 the number of rejects was very high mostly due to carbon monoxide, histamine, heavy metals and antibiotics. The issue of carbon monoxide was solved and does not appear anymore. Rejects due to histamine, heavy metals, and antibiotics are reduced, but still remain. 33 See regulations (EC) No 178/2002, (EC) No. 852/2004, (EC) 853/2004 and (EC) 854/ Based on regulation No. 2006/236/EC, 100% border inspection has been performed in the EU starting This inspection has been removed dated See (Commission Decision C(2010) 2358) 36 See (EC) No 470/2009

31 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 119 A Fishery Testing Laboratories Description: Various laboratories are involved in the testing of fish products such as provincial fishery laboratories, laboratories for fishery diseases under the MMAF, laboratories dealing with aquaculture under the MMAF, Balai Besar Industri Agro (BBIA, Research Center for agriculture industry), private laboratories and the laboratories of fishery companies. Table A.3.1: Rejections of Indonesian Fishery Products in European Union Year Carbon Monoxide Heavy Metal Histamine Antibiotics Microbiology Organoleptic Others Parasite TOTAL Note: 2010 data through September Source: Data from EU delegation Indonesia Provincial Laboratories for Issuing Health Certificates: Thirty-nine provincial fishery testing laboratories are appointed by the competent authority to conduct testing for export health certificates. These institutions also issue the health certificates and conduct inspection. The laboratories are backed up by the national fishery reference laboratory (NCQC, National Center for Fish Quality Control). Laboratories used for NRCP (National Residue Control Plan): The MAAF has appointed seven laboratories to perform testing for the national residue control plan. Three of these laboratories are under the authority of the MMAF, two laboratories are provincial fishery laboratories and two are private laboratories. One of the MMAF laboratories also serves as a reference laboratory. Laboratories for fish diseases: The MMAF runs 46 laboratories for the testing of fish diseases in the provinces, including one reference laboratory. These laboratories, which are different to the provincial laboratories issuing the health certificates, are under the direct authority of the MMAF. At present these MMAF laboratories conduct tests for fish diseases and microbiological parameters only. Private and other laboratories: In addition to the fishery laboratories of the MMAF, other government and private laboratories conduct fish testing in Indonesia - for example PT Sucofindo, Laboratory for Quality Testing of Export and Import Goods / Balai Pengujian Mutu Barang Export dan Impor (BPMBEI)- MOT, and Balai Besar Industry Agro (BBIA)-MOI. Laboratories of processors: Processors often have their own laboratory for quality assurance testing. Some larger shrimp processing companies use Elisa equipment for antibiotic screening of shrimps. EQI Issues: (1) Provincial Fishery Laboratories: The laboratories have to perform testing in accordance to EU requirements. Official sampling conducted related to export to the European Union must be based on the procedures as described in detailed rules. 37 Analytical methods used for testing of certain residues in fishery products must be able to detect certain minimum values of content. 38 International standard testing methods have to be used and validated to ensure that results are comparable. All these laboratories are required to be accredited in accordance with ISO However, some of the laboratories providing tests for issuing of health certificates are not accredited for 37 European Commission Decision 98/179/EC describes details for sampling and sampling handling until the samples reach the laboratory responsible for analysis 38 The Commission Decision 2005/34/EC sets harmonized standards for the testing by using MRPLs (Minimum required performance limits) as action limits.

32 120 the entire scope of the testing performed. Consequently their competence in regards to certain test parameters is not recognized, which creates a serious obstacle especially in respect of the detection of antibiotics and heavy metals in products designated for export. It has been found that the competence of MMAF appointed fishery laboratories varies significantly and cannot be regarded as universal. The laboratories of DKI Jakarta, Surabaya and Medan appear competent with suitable quality management system implementation. Most laboratories located in remote provinces are found to have a severe lack of competence especially with regard to the analytical measurement of heavy metals, histamine and antibiotics. Lack of competent personnel is still a major issue in many fishery laboratories. The provincial governments in charge of operating fishery laboratories do not always ensure the required competence of technical staff and management. The above-mentioned observations became evident during the EU inspection mission conducted in 2009, which discovered shortcomings regarding proficiency tests and the use of standard methods. Proficiency tests for histamine and heavy metals in several official laboratories yielded unsatisfactory results. In addition the analytical method used for histamine detection was not the method provided by the European Union and was not validated against the official EU method. (2) Laboratories used for NRCP (National Residue Control Plan): The two main quality issues of the laboratories for NRCP are found to be in accreditation and proficiency testing: (1) Most of the testing laboratories owned by the government and used for testing for NRCP do not have accreditation for the relevant parameters for residue control. (2) No proficiency tests are performed by the reference laboratory although the task of this laboratory includes periodic proficiency tests for each substance. 39 (3) Laboratories of Fish Diseases of MMAF: These laboratories are currently restricted to testing of parasites and microbiology and are not able to perform testing on histamine, heavy metals and antibiotics. However, the laboratories have the advantage of being owned and controlled by the MMAF. Thus, the MMAF can influence quality measures in these laboratories by providing personal, financial funds, equipment, training and consultancy. (4) Private and other laboratories: The BBIA and the BPMBEI are capable of testing parameters in fish but as they are not acknowledged by the MMAF as official testing laboratories they cannot conduct testing for export to the European Union. (5) Laboratories of processors: The laboratories of processors are often found not to be sufficiently familiar with quality assurance application in their laboratory. Proficiency tests are not conducted and certified reference material is usually not used. Traceability to national and international standards is therefore not achieved. (6) General Quality Issues in the Laboratories: Provincial fishery testing laboratories still have shortcomings with regard to following elements of laboratory quality management: Method verification: many laboratories have not verified their applied methods Quality Assurance: Control charts for accuracy and precision are not applied; proficiency tests and certified reference materials are rarely used. Proficiency Tests: The number and frequency of proficiency tests provided for fishery products are not sufficient. The Indonesian Institute of Sciences LIPI (Lembaga Ilmu Pengatuhan Indonesia) is currently establishing an institution for Metrology in Chemistry, which shall coordinate proficiency tests for chemical parameters in Indonesia. Under the coordination of the LIPI proficiency tests for fishery products can be performed by the LIPI institute itself or by the NCQC. The LIPI is supported by a project of the German Government administered by Physikalische Technische Bundesanstalt (PTB). 39 Ministry of Marine Affairs and Fisheries, Directorate General of Aquaculture, Directorate of fish health and environment: National Residue Control Plan 2010

33 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 121 Certified Reference Material: Currently not many laboratories are using CRM due to its high cost. The above-mentioned chemical institute of LIPI is designated to produce certified reference material and coordinate the production of CRM in selected other institutions. Once implemented it can be expected that this program will solve the problem with CRM. Calibration: Several laboratories still have problems with the calibration of their equipment. Uncalibrated equipment is frequently found in laboratories and, where calibration is conducted as required, the technical staff is often not able to interpret the calibration certificate. Conclusions: The main issue identified with regard to test laboratories is the lack of competence of testing laboratories and the large amount of fishery laboratories and reference laboratories. Not all laboratories performing testing for health certificates are able to comply with EU requirements for testing of fishery samples. Quality assurance, calibration and method verification still needs improvement. Proficiency tests and certified reference materials are rarely used. It appears to be quite difficult for the Government to improve all 88 testing laboratories and three reference laboratories in the fishery sector. Sufficient quality is unlikely to be ensured in all of these laboratories and efficiency is questionable. A In-process Inspection Description: The provincial authorities under the supervision of the national authorities conduct Inspection of HACCP and GAP. In-process inspection is supposed to be performed at the levels of farmers, middlemen and processors. However, inspection of middlemen has just been started by some authorities. EQI Issues: During the last EU mission many shortcomings were observed at the level of processors. Some of these shortcomings had not been identified during the official inspection by the provincial authorities. Such issues included measurements related to process control (e.g. temperature), dirty and dusty equipment because of insufficient maintenance, hygiene issues and inadequate definition of critical control points in the HACCP system. The fact that provincial inspectors failed to identify these deficiencies indicates the lack competence of these inspectors. Inspection by the provincial authorities should ensure reliable and reproducible results. The standard ISO provides requirements for quality management systems for inspection bodies. Implementation and maintenance of this standard would ensure sufficient competence of these Box A.3.6: Structure of New Center for Fishery Quality Badan Karantina Ikan Pengendalian Mutu & Keamanan Hasil Perikanan Centre of Fish Quarantine Centre of Certification of Quality and Safety Assurance Centre of Quality Management (ISO 9001) Inspection & Certification (GMO, HACCP) Accredited Laboratory Harmonization & Handling Issues QM Pre- Harvest & Post Harvest QM Lab & Inspection Technical Advisory

34 122 inspection bodies. However, the inspection bodies of the Provincial Governments are not yet accredited for ISO Conclusion: Two major shortcomings have been identified: (1) Inspection of farmers, middlemen, fishing vessels and processors is not comprehensive, particularly at the level of the middlemen. (2) The competence of inspection bodies and their inspectors is not ensured through certification according to ISO A Organizational Issues The MMAF has implemented a quality management system based on ISO 9001 that will control quality issues throughout the entire fishery value chain. Currently the authorities for quality and food safety for fishery products are divided into three different General Directorates that share the responsibilities to control the quality infrastructure of the whole fishery value chain. Suitable and efficient coordination among these General Directorates appears difficult, which leads to shortcomings in quality assurance. Another obstacle is the fact that the laboratories and institutions issuing the certificates in the provinces are under the local Provincial Government. The MMAF can guide these institutions but has no direct control over them. As already stated, provincial authorities experience difficulties in ensuring the required competence of technical personnel in their laboratories. This problem arises from a very limited availability of well educated people in all provinces outside Java and Bali and the fact that local governments frequently rotate personnel between positions not based on competence but for other reasons. The MMAF is now establishing a new center (Badan Karantina Ikan Pengendalian Mutu dan Keamanan Hasil Perikanan) where all units related to fishery quality are united. The new structure is shown in Box A3.6. Conclusion: The MMAF is currently undergoing a restructuring process with the aim of achieving a higher efficiency and better quality. The new structure will combine all export quality relevant units in one new center. The existing quality management system (ISO 9001) does not suit the revised structure and will have to be adapted. A.3.3. Industry Support Services The four most important institutions supporting actors in the fishery value chain are the Ministry of Marine Affairs and Fishery, the Association for Fish Processing and Marketing Companies in Indonesia, (Asosiasi pengusaha pengolahan dan pemasaran perikanan Indonesia, AP5I), the Shrimp Club Indonesia (SCI) and the Seafood Service Center in Surabaya. Several other associations have been identified but appear to be of comparatively little relevance. However, they shall be listed here: Masyarakat Akuakultur Indonesia, Association of Aquaculture Product Support, Asosiasi Pembenih Udang Indonesia (APUI), Association for Tuna Fish Companies (ASTUIN), Gabungan Pengusaha Makanan Ternak Indonesia, Asosiasi Pengusaha Ikan Kaleng Indonesia, Indonesian Fisheries Federation, Indonesian Fisheries Federation, Masyarakat Perikanan Indonesia, Komisi Udang Indonesia, and Asosiasi Rantai Pendingin Indonesia. A Ministry of Marine Affairs and Fishery The Production Directorate of the Directorate General for Aquaculture provides a set of well developed brochures on different aquaculture topics. Guidelines are available for Good Aquaculture Practices, GAP certification, technical guidance on fish farming for various fish species, fish feeding and feed production. The Directorate also provides direct consultancy and guidance to farmers during field visits.

35 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 123 A Association for Fish Processing and Marketing Companies in Indonesia, Asosiasi pengusaha pengolahan dan pemasaran perikanan Indonesia (AP5I) AP5I is a processing and marketing association of Indonesian fishery processors, which is involved in the development of the Indonesian fishing industry and has Regional Management Coordinators for the following regions: DKI Jakarta & Lampung, Sumatra, Kalimantan, Sulawesi and Java / Bali. AP5I acts as a forum for export and import companies operating in Indonesia involved in processing and production, distribution, transportation, storage and the marketing of fishery products. Suppliers supporting fishery-related activities such as certification, laboratory, retail sale and packaging are also represented. AP5I is conducting seminars, training, workshops and meetings with business stakeholders, providing information on markets and applicable regulatory legislation. AP5I is regularly publishing the AP5I Newsletter on the above issues but does not have a website yet. AP5I aims to align the interests of employers and the Government in improving quality, safety and environmental friendliness. The Association also supports developing human resources in the fields of planning, production, fishing, cultivation, processing and marketing of fishery products. Furthermore, it provides advice and input for the Government and other organizations in order to improve the image of the Indonesian archipelago. Lastly, AP5I endeavors to increase the awareness of its members in quality, quality improvement, and product safety standards - such as required GMP standards, HACCP food safety management system, and ISO standards (International Organization for Standardization) A Shrimp Club Indonesia The Shrimp Club of Indonesia (SCI), a shrimp farmers association, was established in with the aim of tackling global issues in shrimp farming and processing such as dumping, sustainable aquaculture, traceability and food safety. 40 Information received from: FreeNewsBackIssues/FreeNewsNovember html Box A3.7: Food Safety in Fisheries An important feature of the fish-processing industry is that, while the operations are mostly small to medium scale, there is enormous diversity in the species of fish handled. For each type of processing, the fish can be prepared in several ways, from manual methods to fully automated operations, and then packaged in a wide variety of ways depending on the location and market demand. The various levels of progress and scales of operation available in the world increase the differences between species. What may be appropriate in an industrialized fishery is often not suitable for a small-scale artisanal fishery in a developing country. Furthermore, fish preservation and processing may vary according to species. Each of the many thousands of fish species has its own characteristic composition, size, shape and intrinsic chemistry. Fish is very perishable and several chemical and biological changes take place immediately after capture. Fish requires careful handling and preservation, special facilities such as cold storage and refrigerated transport, and rapid delivery to consumers. Therefore, the research and development of postharvest systems for handling raw material are important to developing appropriate measures to: (i) increase its shelf life; (ii) reduce physical, organoleptic (sensory) and nutritional losses; and (iii) preserve the quality and safety of the finished products. This is important for ecological, social and economic reasons to safeguard consumer health and food security and to ensure the sustainability of the industry. In many developing countries with tropical ambient temperatures, quality deterioration and significant post-harvest losses occur because of inadequate use of ice, long supply chains, poor access to roads and electricity, and inadequate infrastructure and services in physical markets. Market infrastructure and facilities are often limited and congested, increasing the difficulty of marketing perishable goods. The utilization and processing of fish production have diversified significantly in the last two decades, particularly into high-value fresh and processed products, fuelled by changing consumer tastes and advances in technology, packaging, logistics and transport. These changes include improvements in storage and processing capacity, together with major innovations in refrigeration, ice-making, and food-packaging and fish-processing equipment. Vessels incorporating these improved facilities and able to stay at sea for extended periods have been built. This has permitted the distribution of more fish in live or fresh form. Moreover, improved processing technology enables higher yields and results in a more lucrative product from the available raw material. Source: Food and Agricultural Organization (FAO) of the United Nations, The State of World Fisheries and Aquaculture (SOFIA). Available:

36 124 The SCI has 360 members, mostly intensive shrimp farms, on the islands of Sumatra, Java, Borneo, Sulawesi, Lombok, Sumbawa and Bali. The SCI promotes healthy shrimp farming without the application of antibiotics and creates awareness about the environmental impact of shrimp farming and provides guidance on the management of effluents. A Seafood Service Center in Surabaya The Seafood Service Center in Surabaya provides consultancy and training on market information, market access requirements (including EU market requirements), export assistance, export marketing and management training - and the diversification for value-added products. The Seafood Service Center provides Training of Trainers on export marketing and development and trends in the European market for fishery products. This center has been cooperating with Dutch, Swiss and Indonesian projects and is probably the only professional private organization in Indonesia, which provides such services. It appears that this organization works quite effectively for its customers. Conclusion: Industry support services are available and play a significant role in the development of the fishery value chain. The Seafood Service Center works with the fishery industry and has experience in providing training and consultancy. The staff of the Center is very knowledgeable and familiar with the problems in the fishery sector in Indonesia. The Shrimp Club appears to be a suitable cooperation partner for pilot projects with farmer groups and may also facilitate nationwide capacity building for farmers. AP5I has excellent access to processors and is therefore capable of disseminating information to this specific target group. The MMAF has a wide network through the provincial fishery laboratories and has direct access to producers, farmers and shipping vessels. Capacity building measures could be planned and performed in cooperation with these four institutions. A.3.4. Regulatory Framework The Government s overall development strategy for the fishery industry is (a) to increase employment opportunities, income and welfare of fishermen and aqua-farmers; (b) to increase foreign exchange earnings by increasing quality and quantity of landings and aquaculture products; and (c) to improve the nutritional standard of the people, especially those in lower-income strata. To that end, the Government has established for the industry a legal and regulatory framework, supported by an institutional structure. The basic law governing fisheries is Law No. 31 of 2004 on Fisheries, which replaces Law No. 9 of The new law underscores the importance of sustainable use of aquatic resources in the development of fisheries. Under Law No. 22 of 1999 on Regional Administration, provincial governments are held responsible for the management, use and conservation of marine resources within territorial waters. A Institutional Structure Indonesia s main fishery authority is the Ministry of Marine Affairs and Fisheries (MMAF). It is responsible for marine and fishery sector planning, management and administration in Indonesia. The Ministry comprised six line offices that consist of an Agency for Marine Affairs and Fisheries and five Directorate Generals covering Aquaculture, Capture Fisheries, Coastal and Small Islands, Marine and Fisheries Resource Controls and Capacity Building and Marketing. Responsibility for local-level marine fishery management rests with the Provincial Marine and Fisheries Service (Dinas Kelautan dan Perikanan Propinsi), which has offices at province, district and subdistrict levels. Since the adoption of Law No. 22/1999, the Provincial Marine and Fisheries Services have been given more responsibilities as well as greater autonomy in carrying out their functions, being no longer under the technical supervision of the MMAF. Notwithstanding these changes, regulation of the fishing industry remains weak. The key problems are (a) confusion over the jurisdiction of MMAF and other enforcement agencies; (b) lack of adequate infrastructure and manpower to control vessels in the high seas; and (c) weak governance at the

37 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 125 provincial level. 41 These constraints have made it difficult for the Government to ensure full compliance with the EC s catch certification requirements. They also weaken the ability of the Government to effectively control illegal, unreported and unregulated (IUU) fishing. A Implementing Regulations and Compliance Implementing regulations include (i) Presidential Decree 39 of 1998 restricting the use of trawler nets in many regions; (ii) Minister of Agriculture Decision No. 392 of 1999 establishing fishing zones based on distance from shore; and (iii) MMAF Decision on the regulation of fishing vessel operations in the Exclusive Economic Zone (EEZ) establishes foreign access conditions (joint ventures, purchase in installments and licensing). This last decision was amended in 2007 to prohibit the licensing of foreign flagged vessels for fishing in Indonesia s EEZ. Enterprises engaged in the fishery business are required under the 2004 Fisheries Law to have a Fisheries Business License (SIUP) for both fishing and aquaculture. Micro and small enterprises are exempt from this requirement. Enterprises that have been granted a SIUP and use foreign vessels in Indonesia s EEZ must apply for a Foreign Vessel Permit (PPKA). Overall compliance of the laws and regulations is the responsibility of the Directorate General of Surveillance and Control of Marine Resources and Fisheries in the Ministry of Marine Affairs and Fisheries. Its jurisdiction is limited to vessels exceeding 30 gross tons, while provincial governorates are responsible for overseeing smaller vessels. The armed forces are also responsible for law enforcement. Lack of cooperation between these agencies weakens their effectiveness. A Disease control The Indonesian quarantine system is regulated by Law No.16 of 1992 on Animal, Fish and Plant Quarantine, as regards the import, export and transfer of animals and plants, including aquatic species. Specific provisions affecting live fish are provided by Decree No. 265 of 1986 from the Ministry of Agriculture on Quarantine Requirements for the Importation of Live Fish into the Territory of the Republic of Indonesia (1986) and Decree No. 245 of 1990 on Quarantine Measures taken on Live Fish Exported from the Territory of the Republic of Indonesia. A.3.5. Case Study of Fish Farming and Processing PTA is an Indonesian fishery product manufacturer with a foreign shareholder. PTA farms and processes Tilapia fish in two Indonesian provinces, North Sumatra and Central Java. In North Sumatra the farms are located in Toba Lake, while in Central Java reservoirs are used for farming. The company sells most of its products to the United States, however, the second largest export destination is the European Union. PTA conducts its business in an integrated way to ensure compliance with international requirements. The company controls the entire value chain, from breeding of fry to hatchery, farming, processing, packaging and transport to their customers. PTA has developed a unique system of fish hatchery and farming, which includes small farmers. These small farmers can all be classified as MSEs and work independently as subcontractors. They take on fixed price contracts. Control of Fish Processing: PTA has bred a fry with an economically optimized shape (small head, thin skin) and they hold the property rights of this fish fry. PTA sells the fry to contracted hatcheries that grow the fry to a weight of about 20g. These juvenile fish are purchased by PTA and are sold to other selected farmers (MSE) for the grow-out phase. The fish farmers grow-out the fish within six to seven months when the desired size of about g per fish is achieved. The farmers grow the fish independently and provide all feed but are supervised by the PTA to ensure the correct feed is applied. Finally PTA buys the grown-out fish and transports the fish to its own factory. 41 Didik Mohamed Sodik, Combating IUU Fishing in Indonesian Waters; the need for fisheries legislative reform, PhD Thesis, University of Woliongong, Australia, 2007.

38 126 PTA has developed clear regulations on hatching and farming and monitors its subcontracted hatcheries and farmers. To ensure the quality of the fish, PTA also provides training to these farmers on important issues regarding farming techniques, quality, and food safety issues. PTA provides guidance and supervision to ensure that the MSEs follow all regulations in order to meet the requirements of the customers in the export countries. Fish Processing: The main steps during fish processing are slaughtering, filleting, skinning, trimming, grading, and packing. The fillets are cut to certain sizes and wrapped in food quality packaging material. All packages are checked in a metal detector, packed in larger boxes and labeled. The ready product is stored in the cold storage at -20C. Quality Assurance: Quality assurance is performed during all process steps, from fry development to packaging and storing of the final product. The main elements of quality assurance are traceability, good aquaculture practice, good manufacturing practice, HACCP, and hygiene. During the hatchery and farming steps, the fish are held traceable by recording the amount of fish and feed as well as some other parameters such as survival rate, delivery date, truck identification, source, genetic batch code, date of harvesting and age. Such data supports traceability in the entire value chain. The water of the hatcheries and farming lakes is regularly analyzed for pesticides and drugs. The processing unit is audited and certified for HACCP, ISO 22000, and BRC Global Standard for Food Safety. 42 Large buyers visit PTA and perform second party audits on quality and corporate social responsibility. Hygiene in the production area is very strict. All personnel and visitors have to wear special clothes, which cover the entire body. Hands have to be washed regularly. PTA also has its own quality laboratory to analyze the quality of the product. Every four months comparison measurements are performed in collaboration with a laboratory of Sucofindo, and every six months the quality laboratory joins a proficiency test offered by other laboratories. Lessons Learned from PTA s Experience Box A.3.8: Flow of Fish Farming Tilapia PTA Monitor and Supervises Hatching (MSEs) Grow-out (MSEs) Development of Fry PTA Breeding of Fry by PTA Breeding of Fry by PTA PTA Process Tilapia Export The majority of small Indonesian farmers lack the technical capacity and know-how to meet the quality standards required by the European Union. One way to overcome this limitation is to establish capacity building, traceability and quality assurance measures under the direct responsibility of the processing company, which quite often is also the exporter. Processors need to identify their entire supply chain from hatcheries to farmers and middlemen. The establishment of a comprehensive recording system at all stages of the supply chain will ensure traceability. The competence of suppliers can be enhanced by guidance provided by the processor to improve the quality of the raw material provided. However, inspections of all entities in the supply chain and testing of samples will also be essential in controlling the supply chain and ensuring that the quality of materials supplied meets EU standards. 42 For more details, see

39 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 127 A.4. Summary and Conclusions In the last decade, the expansion of international trade in fishery products has exceeded the growth in total fish production in the world. This rapid expansion reflects the large increase in consumption of marine products in the EU and US markets as well as many other regions of the world like Asia. Among these fast-growing markets, the European Union is not only the world s largest market, but it is among the fastest growing markets for high-value imports like shrimp, tuna, bass and bream. The prospects for these markets continue to be favorable. Overall, the outlook for the global fishery market is robust, and our medium-term forecast is for EU imports to growth by 8 percent annually. For Indonesia, the rapid expansion of the global fishery market and the European Union s strong market for high-value imports offers a number of excellent opportunities. In the first place, the industry has the chance to reverse the EU market share losses it suffered in the last decade because of external competition from large exporters like Ecuador and China, as well as the internal inertia in addressing EQI hindrances and trade impediment. Secondly, Indonesia s exports could be increased in terms of traditional exports and diversified into various other fish species and processed products that are in high demand abroad, for example, the main exports from aquaculture are shrimp (unfrozen, frozen and canned), crabs (unfrozen, frozen and canned), frog legs (fresh or chilled), ornamental fish (freshwater and mariculture), mollusks (scallops and snails), including capture products like tuna, jelly fish and coral fish as well as fish fat and oil and shrimp crackers. A third opportunity lies in aquaculture growth and development, where opportunities exist for community-based economic activities and rural development, along with greater foreign exchange earnings from exported aquaculture products. Given that two-thirds of Indonesia s territory consists of marine and inland waters with an abundance of natural resources, the development of aquaculture and sustainable capture fisheries has the potential to make the fishery industry leading engines of growth and development for the country. The risks to programs aimed at promoting Indonesia s fishery exports are capacity and institutional constraints at the industry level and exchange rate policies at the macroeconomic level. There are two pressing problems that are internal to the industry. The first is capacity limitations of institutions providing EQI and the resulting limitations that these inadequacies create for fish and fishery exporters attempting to meet EU market access requirements. The issue has been made all the more important as large multinationals and some nationally large private retails in Europe introducing their own standards for food safety and quality, environmental sustainability, and social consciousness. In large part, these initiatives reflect the growing concern of the general public and the retail sector in Europe about overexploitation of fish stocks, and the need for certification of aquaculture in general and of shrimp in particular. The second issue is the lack of adequate coordination and collaboration among central and provincial government agencies and the armed forces in regulating the industry and policing EEZ waters to prevent IUU fishing. While the challenges to the fishery industry appear wide-ranging, the dominant impediments to greater EU market access are concentrated on the supply side. The exchange rate pass-through into the export price of Indonesia in the EU market has been large, but their impact on EU demand for Indonesian fish and fishery products has not significantly impacted trade. In fact, our estimates found that the real cross-rate between the euro and the rupiah has not been statistically significant in determining the EU demand for Indonesian fish and fishery products. Instead, non-price factors appear to have consistently undermined Indonesia s exports to the EU market. These non-price factors reflect (1) supply-chain weaknesses in both internal and external production processes affecting quality levels; (2) inadequate networking capabilities needed to ensure appropriate export services to foreign markets; (3) weak coordination between national, provincial and law enforcement authorities to control IUU fishing; and (4) EQI impediments to EU market access. Specific findings on the supply side are as follows: International Recognition of Laboratory Tests The Ministry of Marine Affairs and Fishery (MMAF) has been appointed by the European Union as the Competent Authority for fishery products in Indonesia. The MMAF carries out testing for fish diseases and health certificates

40 128 through a total of 49 MMAF test laboratories and 39 provincial laboratories. These provincial laboratories are not under MMAF s authority. Many of the laboratories have been accredited by Komite Akreditasi Nasional (KAN), but the scope of accreditation does not always include all parameters tested. Additionally, it is evident that a substantial number of these laboratories do not meet international standard requirements regarding quality management and competence. In order to ensure the status and function of the MMAF as the Competent Authority it must be ensured that all tests used for conformity assessment provide reliable test results that are internationally recognized. Exporters of fishery products rely on test and inspection facilities to ensure the smooth export of their products to the European Union and other markets. Proficiency Testing and Certified Reference Material In chemical testing, Certified Reference Materials (CRM) and Proficiency Tests (PT) are used as tools to achieve traceability. At present the utilization of CRM is very limited in Indonesia due to the fact that most CRM are imported and therefore comparatively expensive. Without CRM traceability to national and international reference standard cannot be achieved. Test results must be traceable and comparable to results provided by any other test laboratory domestically and internationally. It is standard international practice to conduct proficiency tests on selected parameters with a group of test laboratories that serve as indicators for traceability. The need to produce CRM and to conduct regular proficiency tests in Indonesia had already been identified in TSP I. The Research Center for Chemistry (RCChem) in the Indonesian Institute of Science (LIPI) has recently been appointed as the national metrology institute for chemical reference materials and proficiency tests in Indonesia. RCChem is supported by Physikalische Technische Bundesanstalt (PTB) Germany. It has been decided that a number of laboratories will serve as producers of CRM and providers of PTs, of which the National Center of Quality Control (NCQC) of MMAF is one. At present NCQC does not have the capability to produce CRM and conduct PTs as required. Implementation of GAP in Farms A considerable number of fish and shrimp farmers are not applying Good Aquaculture Practices (GAP). Antibiotics are still applied, which endangers export to the European Union and other export markets. Implementation of GHP at Middlemen A considerable number of middlemen are not applying Good Handling Practices (GHP), resulting in problems especially with regard to hygiene and an assured cooling chain. Additionally, the common practice of unrecorded collection and mixing does not allow traceability of products. Quality in Processing Companies The final report of a mission carried out to evaluate the control systems in place governing the production of fishery products intended for export to the European Union (2009) states that several processing companies have shortcomings with regard to HACCP and GMP. It is also evident that most processing companies do not conduct audits of their suppliers as required. Quality Management System ISO 9001 in MMAF The MMAF recently changed its structural organization with the objective of improving and streamlining its operations. Due to this restructuring, the existing quality management system (QMS) in MMAF does not suit the new organization and its operations. Management Processes in MMAF It has been observed that the MMAF presently has shortcomings in coordination and control of the provincial authorities in charge for NRCP, inspection control (vessels, farmers, middlemen, and processors), GAP certification, and medicine and feed control. Required recording of inspection results is not ensured. Quality Management System ISO in Provincial Authorities An analysis was recently conducted of the control systems governing the production of Indonesian fishery products for

41 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 129 export to the European Union. 43 The findings showed that the quality management system of the provincial authorities is not functioning properly and the competence of the used inspectors is insufficient. Information Channels - There is a large amount of actors involved in the value chain of fishery products consisting of the MMAF, provincial authorities, test laboratories, fish processors and their suppliers. It is currently not ensured that all involved parties are swiftly informed on new or revised EU regulations and on reports of the rapid alert system (RAS) applicable for their operations. In an effort to address these issues, interventions could be integrated into the Government s strategy and action plan for the industry, along with industry-based EQI activities supported by TSP II or other donor interventions. They would cover specific actions in the following areas: (1) planning and developing the fishery industry; (2) promoting the fish processing industry; (3) strengthening quality control laboratory facilities; (4) combating IUU fishing; (5) lowering costs of shrimp production; (6) developing a stronger image, market information and export promotion strategy, (7) and overcoming EQI impediments to market access. 43 European Commission, Fisheries Partnership Agreement FPA 2006/20. Annex 5: Indonesia Case Study. Brussels, FPA 15/ IUU/2008.

42 130

43 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 131 B. AGRI-FOODS

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45 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 133 B.0. Executive Summary In Europe, processed foods are becoming an increasingly important part of consumer expenditures as people look for more convenient ways to store and prepare food. Consumers spend 12 percent of their income on food consumption and domestic production supplies about 90 percent of the EU market. The main sub-sectors are processed fruits and vegetables, cereal-based products, processed meats and dairy products. The European Union s fruit subsector is the most dependent on foreign supplies (about one-fourth of domestic utilization). For that reason, imports of fruits tend to predominate in EU imports of processed agri-foods. Processed meat imports into the European Union have grown by an average annual rate of 13 percent a year, outpacing all other food groups by a significant margin. Nevertheless, Indonesia does not supply any meat products to the European Union since it is a large net-importer of those types of products. In Indonesia the processed foods industry has steadily increased its contribution to the total output value of the Indonesian economy. Its impact on the growth and employment of other sectors has been large because of upstream and downstream linkages to primary sector and input activities and service-related industries. The commodity composition of exports is fairly evenly distributed among cereal, flour and starch preparations; vegetable and fruit preparations; and other types of food preparations. In contrast, the geographic composition of exports is highly concentrated in the ASEAN regional market. The share of exports destined for countries in Europe, the United States and Japan is small compared with the size and agri-food absorption of those markets. The European Union, for example is the world s largest market for these types of products, and Japan is the world s largest net importer of food products. The challenges to realizing Indonesia s export potential are concentrated in marketing difficulties and supply-side constraints of the existing agri-foods industry. Indonesia s production costs and exchange rate pass-through into export prices have been low, which has reflected favorably on the industry s international price competitiveness. Non-price factors have, however, undermined Indonesia s exports outside the ASEAN region to markets like that of the European Union. Among the most significant factors are (i) a lack of understanding of consumer tastes and preferences, and their distinction from that of Asian customers; (ii) lacking overseas networks with global supermarkets; (iii) difficulties in meeting health controls and packaging and labeling requirements; and (iv) poor

46 134 infrastructure and high logistics costs. Overcoming these challenges will require concerted actions in several areas. The present document suggests that efforts to be oriented to (a) develop an industry strategy for extra-regional markets; (b) promote unique Indonesian products like tropical fruits and vegetable juices; (c) encourage cluster and networking development with supermarket chains; (d) MSE and SME Support and Developmentt;; and (e) development of Food laboratories capacity.

47 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 135 B. Introduction B.1.1. Objective and Coverage The present annex on agri-foods is one of five industry-specific annexes prepared for the study on Indonesia s Trade Access to the European Union: Opportunities and Challenges. It provides a self-contained analysis of the agri-food industry and its export potential in the EU market. It has three specific objectives. First, it seeks to identify Indonesia s export opportunities in the EU agrifood market, based on the industry s competitiveness and growth prospects. Secondly, it identifies challenges to the realization of Indonesia s export potential in terms of EU market entry requirements, export quality infrastructure (EQI), the conduciveness of trade policies and regulations, and support being provided to the industry. Finally, it offers recommendations on actions that support the achievement of the industry s export potential to the EU market. This report consists of the following parts: Chapter 1 presents an overview of the agri-food industry in terms of its importance to the Indonesian economy and the pattern of its export development. It also covers the strengths, opportunities, weaknesses and threats (SWOT) facing the industry s development, especially as it relates to Indonesia s exports to the EU market. Chapter 2 analyzes the European Union s market for agri-food products and Indonesia s competitiveness in that market. It begins by examining the market in the European Union and assessing its growth prospects. It then examines the major factors determining Indonesia s competitiveness relative to other developing country exporters to the EU market. The chapter ends with an analysis of the relative importance of price and non-price factors in explaining Indonesia s changing market shares in the EU market, and how remedial actions addressing non-price factors could impact on Indonesia s export prospects. Chapter 3 covers EU market access requirements and existing conditions in the Indonesian agri-food industry. It examines internal and external constraints along the value chain, especially for small and medium size enterprises (SMEs), the existing EQI system in the industry and support services being offered to enterprises, and trade policies and regulations affecting the industry. Chapter 4 presents a summary of the findings on the Indonesian agri-food industry, and it draws on this information to recommend specific actions needed to fully realize the country s export potential in the EU market. B.1.2. Importance of the Industry Industry Coverage In agri-foods and beverages, processed products derive from meats, grains and fruits and vegetables. 44 The food industry transforms and adds value to these raw ingredients to produce foods for animal or human consumption. 45 The business network supporting the agri-food industry covers variety of enterprises that deal with every aspect of the food production, sale and delivery system. They include farmers and other raw material and intermediate suppliers, producers, transporters, and distributors to the local, regional and international markets. Importance to Indonesia The processed foods industry offers an opportunity for Indonesian producers to move into high value-adding activities. In the last decade the industry has steadily increased its contribution to the total output value of the Indonesian economy, notwithstanding recent economy-wide contractions (Figure B1.1). Its share of the economy s total value added rose from 13 percent to more than 16 percent during the decade. Moreover, its impact on the growth and employment of other sectors has been large because of upstream and downstream linkages 44 Agri-food trade is composed of the following four Harmonized System (HS) chapters: HS 19: preparations of cereals, flour, starch or milk; HS 20: preparations of vegetables, fruit, nuts or other parts of plants; HS 21: miscellaneous edible preparations; and part of HS section 16 coveing HS 1601 (sausages, similar products of meat), and HS 1602 (other prepared or preserved meat). 45 Throughout this report,, the term industry and sub-sector are used interchangeably and both refer to a subset of activities of the sector to which the industry belongs.

48 136 to primary sector and input activities and servicerelated industries. A multiplier effect occurs because the expansion of these other sectors generates additional revenue for the public and private sectors, which in turn leads to additional demand for food and beverage products. The resulting expansion in the industry needed to meet the additional demand has created feedthrough effects in the economy, and additional rounds of demand-generated expansion, well beyond the original increase in the demand for foods and beverages. These effects are particularly important for small and medium size enterprises (SMEs), which tend to predominate in upstream activities. Figure B1.1. Value Added of Agri-Foods Industry 50% 40% 30% 20% 10% 0% Share of Total Value Added Food Industry Growth Rate GDP Growth Rate Source: Derived from data from Badan Pusat Statistic. Available: dds.bps.go.id Figure B1.2. Indonesia s Main Types of Agri- Food Exports, 2009 Composition of Indonesia s Agri-Food Exports HS Code Vegetable & fruit preparation 25% Misc. edible preparation 33% Cereal, flour, starch preparation 42% Major Agri-Food Export Products Description US$ Million % of Total 1905 Bread, pastry % 2008 Fruit preserved % 1902 Pasta % 2101 Extracts coffee, % tea 2106 Other food % preparations 2103 Sauces % 2009 Fruit juice % 1901 Malt extracts % 1904 Foods prep by % swell cereal 2003 Mushrooms % prepared All Agri-Foods % Source: UN, Comtrade database. Types of Exports Indonesia s exports are fairly evenly distributed among its three major types of agri-foods: (i) cereal, flour and starch preparations (42% of all agri-foods); (ii) vegetable and fruit preparations (25%); and (iii) other miscellaneous preparations (33%). Exports of meat preparations are minimal (0.01%). Among the country s major export products are bread and pastry (18% of all agri-foods); fruit preserves (18%); pastas (16%); coffee and tea extract (13%); and other food preparations (11%). Fruit juices account for 4 percent of all agri-food exports. These and other export products are detailed in Figure B1.2. Major Export Markets Agri-food exports of Indonesia are highly concentrated in the ASEAN regional market (Figure 1.3). In 2009, 43 percent of this industry s exports were directed at neighboring countries, especially the Philippines, Malaysia, Singapore, Vietnam and Thailand. The EU and U.S. markets each absorbed about 15 percent of Indonesia s agri-food exports. The share of exports destined for countries in Europe, the United States and Japan is small compared with the size and agri-food absorption of those markets. The European Union, for example is the world s largest market for these types of products, and Japan is the world s largest net importer of food products. Major Competitors in EU Market Five countries dominate third country competition in the EU market for agri-foods: Brazil, Turkey, China, United States and Thailand. Together these countries account for one-half of the European Union s imports of food products from

49 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 137 Figure B 1.3. Distribution of Indonesian Agri-Food Exports by Major Market in 2009 Saudi Arabia USA 16% Australia 6% Japan 6% ASEAN 43% European Union 14% Source: United Nations, COMTRADE datase. China, Hong Kong 4% Netherlands 6% Spain 3% Germany 3% Other Figure B 1.4. Top Agri-Food Exporters to EU Market in 2009 India Ecuador Peru Costa Rica Thailand United States Table B 1.1. Intra-Industry (two-way) Agri- Foods Trade betweeen Indonesia and the European Union in 2009 HS Description IIT Vegetables and fruit preserved 0.91 by vinegar or acetic acid Peaches prepared or preserved Fruit and other edible parts of 0.83 plants, prepared or preserved Vegetables and fruit preserved 0.77 by sugar Prepared foods obtained by 0.77 roasting cereals or cereal products Preparations for sauces and 0.60 prepared sauces Mixes and doughs of flour Waffles and wafers Pineapple juice, unfermented Food preparations, n.e.s Orange juice, unfermented Mixtures of fruits, nuts and 0.33 other edible parts of plants, preserved Extracts, essences and 0.32 concentrates, of coffee Sweet biscuits 0.31 All 53 Agi-Food Products 0.10 Source: Derived from data in UN, Comtrade database. Note: The IIT index varies between 0 (complete inter-industry trade) and 1 (complete intra-industry trade). See main text for calculation method. South Africa Indonesia 0.0% 5.0% 10.0% Source: European Commission, Eurostat datase. non-eu suppliers. As a country having a similar profile to that of Indonesia, Thailand has been highly successful in expanding its exports to the EU market because of its good infrastructure, favorable government policies towards foreign investment, tax incentives, and successful promotion of SME food processors. 46 Indonesia s share of the EU market is modest and there is considerable room for growth. EU demand for quality agri-food products is growing rapidly, and sourcing from non-eu producers is outpacing intra-eu sourcing. An important growth area is organic food ingredients and food products. Europe has been unable to supply its population in this sub-sector. China and Brazil are gaining market shares in the organic market, offering products at lower prices and reasonable quality. Direct exports of organic food ingredients to end customers are possible through specialized companies and supermarket chains. Two-Way Trade between Indonesia and the European Union Since Europe and Indonesia export large quantities of agri-foods to one another, it is useful to ask whether trade occurs in the same types of products. If trade takes place in different types of products, or so-called inter-industry trade, it means that the trading partners are specializing in the types of products in which they have 46 See Royal Danish Embassy, Thailand Food Industry Outlook. Bangkok, June Available: rdonlyres/e45cc3b b3e-b91a db2a4/0/thailandfoodindustryoutlook_final_june09.pdf

50 138 a comparative advantage, and that changes in specialization within one of the countries will involve transitional adjustment costs to the industry. In contrast, if trade takes place in the same types of products, or so-called intra-industry trade (IIT), there will be less adjustment difficulties because of relatively low labor market adjustment needs. 47 With increased two-way trade between Indonesia and the European Union, for example, resources within the agri-foods industry could move within the industry rather than being displaced by trade. Calculations of the extent of intra-industry trade in agri-foods between Indonesia and the European Union are shown in Table B1.1. These calculations of intra-industry trade (IIT) are based on narrowly defined goods at the 6-digit level of the Harmonized System (HS) for classifying trade. 48 An index number near 0 indicates that there is inter-industry trade between the two countries, whereas an index near 1 means that intra-industry trade is taking place. In the case of Indonesia-EU trade in agrifoods, the calculations show that, on the whole, inter-industry trade has dominated. These results imply that further opening of trade between Indonesia and the European Union will involve transitional adjustment costs to Indonesia. These transitional adjustments refer to possible movements of labor and capital from one type of agri-foods activity within the industry to another type of activity. In the case of labor, such adjustments often tend to be moderate and can be absorbed by changes in employment that occur naturally in an industrial activity as a result of turnover rates from labor mobility within and across industries. 49 At the individual At the individual product level, however, there are 14 products where two-way trade is taking place between Indonesia and the European Union. In those cases, the companies producing those particular products will have a small labor adjustment costs and little need for restructuring. Fruit and Vegetable Juices The fruit and vegetable juice subsector has one of the fastest growing markets in the European Union, and Indonesia has an abundance of tropical fruits and vegetables that places it in a privileged position. At present, Indonesia s exports are small compared with its potential. As a consequence, the agri-foods industry could exploit the opportunities offered by the EU market by focusing on product developments that address the growing needs of the European consumers. In terms of the aforementioned inter-industry trade potential, an expansion in these types of exports would draw capital and labor to the production of tropical fruits and vegetable juices, and possibly shift that labor and capital from import-substituting industries to activities directed to export markets in the European Union. B.1.3. SWOT Analysis Box B1.1 summarizes the strengths, weaknesses, opportunities and threats (SWOT) of the industry. The focus of the analysis is areas where there is a need for change to ensure that Indonesia realizes its export opportunities in the EU agri-food market. Key issues for the industry are as follows: Opportunity to expand and diversify markets from the currently narrow focus on the ASEAN market. Organic food ingredients and food products are one of the fastest growing segments of the food EU market. Europe cannot supply its population in organic food products and needs to import large quantities from third countries. In Indonesia, SME producers have not implemented GMP and are therefore not ready for export. Laboratories BBIA and BPBMEI are unable to perform all testing as required by industry 47 This phenomenon is called the smooth-adjustment hypothesis and is widely used to assess the predisposition of countries to benefit from preferential trading arrangements. See Horácio Faustino & Nuno Leitão, Intra-industry trade and labor costs: the smooth adjustment hypothesis, Working Papers 2009/17, Department of Economics at the School of Economics and Management (ISEG), Technical University of Lisbon, Calculated for each product j as follows: IITj = [ Xj Mj /(Xj+Mj), and aggregated using the formula (Xj+Mj)/(X+M). 49 For illustration of the magnitude of labor mobility following increased trade induced by the US-Colombia FTA, see Montague Lord, Partial-Equilibrium and Industry-Shift Analysis of the U.S.-Colombia FTA. Available: php?option=com_docman&task=cat_view&gid=25&dir=desc&order=date&limit=5&limitstart=45&mo=06&yr=2010

51 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 139 Box B1.1. Strengths, Weaknesses, Opportunities and Threats (SWOT) of Indonesian Agri-Foods industry Supply Chain Structure and Functioning EU Market MSEs and SMEs Institutional Framework Strengths Various tropical fruits are grown in Indonesia EU demand for quality agri-food products is growing rapidly, and sourcing from non-eu producers is outpacing intra-eu sourcing. Europe cannot supply its population in organic food products and needs to import large quantities from third countries. Fruit juice producers for local market are available Association GAPMMI provides frequent support for SMEs Ministry of Agriculture is implementing several programmes to support SMEs Weaknesses It appears that Indonesia does not have sufficient supply of fruits for export at present Large competitions from Brazil, Turkey, China, United States and Thailand, which together account for one-half of EU agri-food imports. Fruits are produced mostly by MSEs which are not able to supply fruit as required by large fruit juice producers. SME producers have not implemented GMP and are not ready for export SMEs do not perform required testing of finished products regularly Laboratories BBIA and BPBMEI are not able to perform all testing as required by industry Quality assurance in laboratories still lacks Proficiency Tests and Certified Reference Material Opportunities Opportunity to impact growth and employment of other sectors because of upstream and downstream linkages. Building of sustainable farmer groups and improved handling practices for harvested fruit can provide fruit juice producers with continuous supply Opportunity to add value to agricultural products by processing them for animal or human consumption Opportunity to expand and diversify markets from the currently narrow focus on the ASEAN market. Direct exports of organic food ingredients to end customers are possible through specialized companies and supermarket chains. Organic food ingredients and food products are one of the fastest growing segment of the food EU market. Implementation of GMP and HACCP in SMEs will improve potential for export Fruit juice producers for available for local market could be increased for export market. Laboratories of BPOM and BBIA can serve as reference laboratory for all food laboratories and could provide PT and CRM to ensure traceability of test results Threats Without large fruit farms or functioning farmer groups Indonesia will not be able to increase its fruit juice export Possible transitional labor market disruptions from opening trade with European Union due to restructuring and associated adjustment costs. Laboratory results of Indonesian laboratories will only be internationally recognized if traceability is achieved

52 140 B.2. Indonesia s Export Competitiveness in the EU Market B.2.1. EU Market Development and Prospects The European Union is a net importer of raw agricultural products and a net exporter of processed products. Processed foods are increasing their participation of overall consumer expenditures in the European Union as people look for more convenient ways to store and prepare food. Key product groups include processed dairy products; frozen fruit and vegetables; confectionery industry products; various prepared foods and sauces, including pasta, ice-creams and soups; and processed starch products. Despite high tariffs and relatively strict requirements on imports, EU imports have expanded by an average of 10 percent annually in the last ten years. Over 70 percent of agricultural goods produced in the European Union are transformed into food industry products. Consumers spend 12 percent of their income on food consumption and domestic production supplies about 90 percent of the EU market. The largest sub-sectors are meat, dairy, cereal-based industries and fruit and vegetable juices. The fruit subsector is the most dependent on foreign supplies (about onefourth of domestic utilization). 50 For that reason, imports of fruits tend to predominate in EU imports of processed agri-foods (Figure B2.1 and Table B2.1). The European Union is by far the world largest trader of meats, accounting for over 50 percent of total world exports and imports respectively. 51 International trade is largely in the form of frozen, cooked or further processed products. The value of processed meat imports into the European Union has grown by an average annual rate of 13 percent a year, outpacing all other food groups by a significant margin. Nevertheless, Indonesia does not supply any meat products to the European Union since it is a large netimporter of those types of products. Imports of meats are 13 times larger than exports. Over the last decade this trade gap has grown rapidly, indicating that Indonesia is not likely to become a significant exporter of meats to the EU market. Figure B 2.1. EU Agri-Foods Imports, (Billion US dollars and percentage) $12 $9 $6 $3 $0 All Agri-Foods annual % change Other Edibles Fruits & Vegetables Cereals Meats Source: European Commission, Eurostat datase. The average import growth rate of cereals, flour and starches has been 7.6 percent, and that of fruits and vegetables under 4 percent. Less than 5 percent of total world output of fruit and vegetables is traded internationally since they are generally consumed fresh. However, in the higher income countries of Europe, more than half of all consumption is in the form of processed fruit and vegetables, including juices. 52 Among individual product categories, fruit and vegetable juices are the largest processed agri-food imported into the European Union. It alone accounts for over 18 percent of all agri-food imports. Prepared or preserved meats are the second largest imported product group, representing 17 percent of all agri-food imports. Other major imports are fruits, nuts, and edible plant parts (14 percent), prepared vegetables (13 percent), and concentrates of coffee and tea (7 percent). Bread, and pastries and sauces, condiments and seasonings each accounts for 5 percent of total agri-food imports into the European Union. 50 Based on UN Food and Agriculture Organization (FAO) FAOSTAT database for the latest available year (2007) from commodity balances. 51 Based on UN Food and Agriculture Organization (FAO) FAOSTAT database TRADEstat. Available: DesktopDefault.aspx?PageID=535#ancor 52 J.H.M. Wijnands, B.M.J. van der Meulen, and K.J. Poppe (eds), Competitiveness of the European Food Industry: An Economic and Legal Assessment. European Commission, According to this study, producers of processed fruits and vegetables, particularly in the canning industry, are encountering stagnating consumption in high income regions like Western Europe. Under this situation, processors and other chain suppliers have attempted to exploit the increasing consumer preference for freshly processed fruits and vegetables like pre-cut, cleaned, pre-packed or as a ready-to-eat meal. Frozen products appeal to consumers as their nutritional values are almost the same as fresh vegetables and they can be stored for longer periods. Processed vegetables, fresh, canned or frozen, are also widely used in the food services.

53 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 141 Table B 2.1. Top Agri-Food Imports of European Union in 2009 (Billion US dollars) HS Products Fruit and vegetable juices $ Prepared or preserved meat $ Fruit, nut, edible plant parts $ Other Food preparations $ Vegetables, prepared/ $0.8 preserved 2101 Concentrates of tea, coffee, $0.6 mate 1905 Baked bread, pastry $ Sauce, condiments, seasoning $ Pasta, couscous $ Malt extract, flourpreparations $ Vegetables & fruit in vinegar $ Tomatoes prepared $ Soup preparations $ Yeast, baking powders $0.1 Sub-Total $11.2 All Agri-Foods $11.5 Source: United Nations, COMTRADE database. Billion US dollars Figure B 2.2. EU Agri-Food Imports, actual and forecast Actual Bil US$ Forecast 15% Among EU member countries, the largest importers of processed agri-foods are Netherlands (18 percent of all imports), United Kingdom (18 percent), Germany (17 percent), France (10 percent), Italy (8 percent), Spain (7 percent) and Belgium (7 percent). Together these seven countries account for 77 percent of all EU imports of processed agri-foods. 5% -5% -15% Percent Change Source: Projections by the Study Team based on econometric estimates and assumptions about economic activity from IMF, World Economic Outlook database. Percent The EU demand for agri-food imports has been strong, particularly in its response to changes in consumer incomes. Our estimates show that a one percent increase in real GDP of the EU market as a whole has produced a 2.1 percent expansion in agri-food imports. Figure 2.2 provides a visual representation of the forecast of total EU agri-food imports through The forecasts are based on assumptions about real GDP growth, agri-food prices and exchange rates are taken from the International Monetary Fund s biannual projections. 53 They forecast GDP to grow by 1 percent in real terms in 2010 and by another 1.3 percent in After 2011 a moderate 2 percent annual real GDP growth is assumed. We assume unchanged constant euro prices for the products and an average exchange rate of US$1.3 per euro over the medium term. Based on these projections for EU economic activity, demand for agri-food imports is projected to grow by 1-2 percent in , and 3.5 percent thereafter. B.2.2. Indonesia s Export Competitiveness Indonesia s competitiveness in the EU agri-foods market, like in other foreign markets, is largely determined by four interrelated conditions: (i) export prices relative to those of competing suppliers to the market; (ii) the magnitude and type of accessible demand; (iii) accessibility and reliability of supporting industries; and (iv) firm strategy and rivalry that affect how various enterprises conduct business. 54 Export Prices: Foreign demand for Indonesia s agri-food exports is determined by the rupiahdenominated price of exports. From the point of view of European buyers, that price is denominated in euros. The price differential between Indonesia s exports and those of other competitors to the EU market therefore depends on the product price in each supplying country and the cross exchange rate between the rupiah and the euro, adjusted for inflation in each country. The demand for agri- 53 See International Monetary Fund, World Economic Outlook Update. July Available: weo/2010/update/02/index.htm. 54 These conditions are often referred to as the Competitiveness Diamond developed by Michael Porter, Competitive Advantage of Nations. Free Press, 1998.

54 142 Box B 2.1. Competitive Analysis of Indonesian Agri-Foods Industry Strengths Weaknesses Pricing Conditions Proximity of upstream activities. Abundance of low-cost labor for basic agricultural and processing activities. Cost-reducing firm strategies enhance price-competitiveness. Increased pre-export processing. Real effective devaluations by competing suppliers to EU market. High logistics costs, including import charges on factor inputs. Cost of meeting EU health controls and food labeling requirements. Demand Conditions Industry Networking Conditions for Conducting Business Increasing use of EU-consistent health standards. Experience in marketing and distribution in ASEAN regional market Agricultural and agri-industry geographic concentration. Strong supporting relationships and subcontracting in industrial complexes Strong competitive environment Knowledge about requirements in environmental legislation. Clusters disseminate information about business regulations. Inconsistent quality standards for export market. Regulations difficult to access for SMEs. EU consumer tastes and preferences differ greatly from those of ASEAN consumers. Lack cutting edge knowhow or sophistication for export markets. Lacking cluster development and collaboration with overseas networks. Weak linkages to trucking, logistics, warehousing, software, banking and finance. Price-based competition for similar products. Lacking attention to design and manufacturing processes. Weak product design feedback loop. Source: Based on Competitive Diamond analysis (see Michael Porter, Competitive Advantage of Nations. Free Press, 1998). food exports of Indonesia is accordingly determined by both the real cross-rate of Indonesia s domestic currency relative to that of the European Union, and the foreign rupiah-denominated export price. 55 Macroeconomic conditions determine the real cross-rate, while industry-specific conditions in Indonesia determine the rupiah-denominated price of agri-food products. For the first of these determinants, Figure B2.3 shows the relation between changes in the real cross-rate in Indonesia and other major suppliers to the EU market and changes in their shares of the agri-food market. Notwithstanding the rise in the real cross rates of many competing suppliers to the EU market, Indonesia has managed to increase its share of the agri-foods market by a modest 1 percent during the last decade. China s undervalued currency helped its agri-food exporters to significantly improve their position in the EU market, mainly at the expense of Brazil, whose exchange rate strengthened during this period. The industry-specific conditions affecting the rupiah-denominated price of agri-food products are largely associated with labor and infrastructure-related costs. The cost structure of the agri-foods industry is reflected in the nominal unit price of product exports in the industry s relatively competitive global market. 56 Table 2.2 shows the average export price of Indonesia and other foreign suppliers to the EU markets. These price variations could reflect differences in the product composition of the two groups, as well as quality differences. The most important measure of competitiveness is the impact that those prices have had on the demand for Indonesia s exports, that is, whether changes 55 The real bilateral exchange rate takes the relative price of tradable and non-tradable products as an indicator of a country s competitiveness level in the foreign trade. The rationale behind this definition is that the cost differential between trading countries are closely related with the relative price structures in their economies. Mathematically, the real exchange rate, r, is defined as r = Pt/Pn = ep*/pn, where Pt and Pn represent the price of tradable and non-tradable products, e is the nominal exchange rate, and P* is the international price of tradables. 56 In a competitive market, the firm or industry as a whole will select an output level that equates its margina cost with its export price.

55 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 143 Table B 2.2. Export c.i.f. Price of Agri- Foods of Top Developing Country Suppliers to EU Market, Brazil 63 Vietnam 77 Indonesia 77 China 79 Pakistan 82 Thailand 83 India 85 Malaysia 90 South Africa 100 Argentina 137 Figure B 2.3. Changes in Real Cross-Rates with Euro & Share of EU Agri-Foods Market, Change in EU Agri-Foods Market Share 8% China 5% 2% Indonesia Malaysia Argentina India Ecuador -2% Vietnam S. Africa Thailand Pakistan -5% Brazil -8% -20% 0% 20% 40% 60% 80% Change in Real Cross-Rate with Euro (%) Source: Calculated from IMF, WEO database, and EU, Eurostats. Source: derived from data in Eurostat database. Note: Average of all types of exports. in the price of Indonesia s exports have affected the EU demand for Indonesian exports relative to that of competing suppliers to the market. This issue is examined in the next section of this chapter. Demand Conditions: Indonesia s agri-foods industry is, for the most part, directed to the domestic and ASEAN markets. Consumer tastes and preferences in those markets are vastly different from those in the European Union and the United States. Moreover, ASEAN member country regulations governing marketing, health and packaging are not as strict as those in the European Union and the United States. Despite competitive prices, lack of experience in extra-regional markets greatly reduces the overall competitiveness of Indonesian firms relative to major suppliers of agri-foods from the United States, China, Brazil, and South Africa. Industry Networking: Indonesian producers lack overseas networking capabilities with distributors in EU and US markets. Supermarkets now dominate food sales in developed markets and are rapidly expanding their global presence. At the same time, international mergers and acquisitions and aggressive pricing strategies have concentrated market power in the hands of a few major retailers. Although global sourcing has created new opportunities for the Indonesian agri-foods industry, only large companies are normally able to take advantage of them. Conditions for Conducting Business: Access to the EU agri-foods market is subject to stringent food safety and agricultural health standards of the Economic Commission and EU member country governments. There is also a trend for supermarkets to go beyond mandatory regulations to begin implementing their own private standards. 57 In an effort to harmonize supply chain standards worldwide for good agricultural practice (GAP), several European supermarket chains and their major suppliers have sought to bring conformity to different retailers supplier standards. The resulting GLOBALGAP (formerly EurepGAP) is now the world s most widely implemented farm certification scheme, and most European companies for agri-food products now demand evidence of EurepGAP certification as a prerequisite for doing business. 58 The standard was developed using the Hazard Analysis and Critical Control Points (HACCP) guidelines published by the United Nations Food and Agriculture Organization (FAO), and is governed according to the ISO Guide 65 for certifications schemes. These standards make it difficult for SMEs to compete because of the time and cost associated with obtaining the required audits. Without the certification, it is impossible to sell to supermarkets. 57 Oli Brown, Supermarket Buying Power, Global Commodity Chains and Smallholder Farmers in the Developing World. Occasional Paper, UNDP Human Development Report, For details, see the GLOBALG.A.P web site at

56 144 B.2.3. Opportunities to Regain Market Shares Indonesia s share of the agri-foods market in the European Union has fallen over the last decade. Our estimates of the export relationship for the Indonesian agri-food industry suggest that those losses were almost wholly due to non-price factors associated with supply impediments like EQI limitations (Figure B2.4). 59 Export price movements had a favorable impact on market shares, with the exception of 2007 and, to a lesser extent, at the beginning and end of the decade. On average, non-price factors reduced Indonesia s market share by 15 percent. In contrast, the industry s competitive export prices helped to improve market shares by an average of 6 percent during the period, while the exchange rate pass-through on prices contributed another 3 percent to the industry s penetration into the EU market. The net gains, however, were not enough to offset the negative effects from EQI and other supply-related factors affecting the industry s performance. Figure B 2.4. Price and Non-Price Factors on Indonesia s Shares of EU Agri-Foods Market, Figure B 2.5. Actual and Potential Export Earnings from Remedial Supply-Side Measures in Agri-Foods Industry, % Relative export price effect Real cross-rate effect Non-price effect Million Euro Additional Export Revenue from Supply- Side Measures 100% 50% Percent Revenue Gain Actual Revenue 0% 0-50% Source: Estimated from Study team calculations Source: Derived from Study team estimates. To the extent that Indonesia could have overcome its supply impediments on exports and maintained its agri-foods market share at the beginning of the decade, foreign exchange revenue from the industry would have been two-thirds higher than actual revenue for the industry (Figure B2.5). Overcoming EQI obstacles will require considerable effort on the part of the industry. However, the benefits to the industry are considerable, as are the economy-wide impact that would be produced from additional employment and expenditures on downstream and supporting industries. Without those EQI constraints and assuming that all other price and non-price factors were the same as other suppliers, Indonesia s exports would increase by the same proportion as those of EU imports for fisheries, that is, the same as our forecast of 8 percent annual growth of EU fishery imports from third countries. 59 Non-price factors (including but not exclusively EQI) are equal to the changes in exports not explained by income and price changes. That's the way it was calculated and that's normall the way that the intercept is interpreted. However, in our case, we broke down the non-price factors further by including a trend variable to capture secular changes that could or could not be associated wtih EQI. Because of the attribution uncertainty, it was decided not to report the secular (trending) estimates.

57 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 145 B.3 Challenges for Realizing Indonesia s Exports Potential B.3.1. EU Market Access The key elements of the regulatory environment for the processed agri-foods industry are as follows: Common Agricultural Policy: The Common Agricultural Policy (CAP) protects agriculture throughout the European Union by controlling prices and levels of production and by subsidizing farmers. About 40 percent of the EC budget is directed to this support scheme under the existing farm policy that extends to The mechanisms used by the CAP to maintain commodity price levels within the European Union and subsidize production are as follows: Import duties are applied to specified goods imported into the European Union in order to raise the world market price to the EU target price. Import quotas restrict the amount of food imported into the European Union. The European Commission maintains the internal market price between the intervention price and target price by purchasing domestic goods when the internal market price falls below the intervention level. Direct subsidies are paid to farmers according to land in cultivation. This approach supersedes the previous method of paying farmers for the amount cultivated of a particular crop. Its introduction will be completed by 2011, Box B 3.1. EU Market Access for Agri-Foods Tariffs MFN GSP Average Maximum Minimum Product-Specific Requirements: Health control of non-animal foodstuffs. Health control of products of animal origin for human consumption. Plant health control. Packaging. Rules of origin. Sources: Tariffs provided by European Commission, Trade Directorate; requirements from EC Helpdesk. although some EU member governments will retain control over how the new scheme is introduced. Legislative harmonization within the European Union is intended to ensure a level playing field for commodity trade between member countries. Sanitary and Phytosanitary Measures: Measures related to Sanitary and Phytosanitary (SPS) are intended to protect the health of people, animals and plants. To this end, the European Union applies control standards over food and food product hygiene, animal health and welfare, plant health. It also provides rules on appropriate labeling for these foodstuffs and food products. This policy follows the so-called From the Farm to the Fork approach that ensures a high level of safety for foodstuffs and food products at all stages of the production and distribution chains. 61 This approach applies to food produced within the European Union and those imported from third countries. Environmental Regulations: The principal components of the environmental legislation relating to the processed foods industry are (a) Integrated Pollution Prevention and Control Directive; (b) directive on packaging and packaging waste; (c) Framework Directive on Waste; and (d) climate change scheme known as the Emission Trading Scheme (ETS). The current ETS is compulsory for large food and drink companies, and is intended to reduce greenhouse gas (GHG) emissions caused by large installations at least cost. Rules of Origin for GSP Status: The major materials such as fruits, nuts or other parts of plants and animals used in processing should be wholly obtained in the originating country, e.g., 60 EU Observer, Parliament sets out demands on CAP reform. 08 July Available: 61 For details, see European Commission, Food Safety: General Provisions. Available: safety/general_provisions/index_en.htm

58 146 Indonesia. Manufacturing material used in the processing of the product should not exceed 30 percent of the ex-works price of the product for the non-originating materials. For Indonesian exporters shipping processed agri-food products to the EU markets, the following are the specific market access requirements: Tariffs: Duty rates vary across individual products within each category For meat preparations, an ad valorem tariff of 16.9 percent applies to third countries, and a preferential tariff rate of 12.4 percent applies to Indonesia. For processed cereals and starches, an ad valorem tariff of 6.4 percent EUR/100 kg and a non preferential tariff quota applies to third countries, and a preferential tariff rate of 7.4 percent applies to Indonesia. For preparations of vegetables, fruit, nuts or other parts of plants, an ad valorem tariff of 10.9 percent applies to third countries 14.4 percent (no preferential rate). 2. Specific requirements cover (a) Health control of non-animal foodstuffs; (b) health control of products of animal origin for human consumption; (c) plant health control; (d) packaging; e) food labeling rules; and f) rules of origin. Figure B3.1 provides a visual summary of the health controls. These requirements apply equally to producers within the European Union and to third country suppliers. 63 (a) Health control of non-animal foodstuffs: Compliance is required for (i) general and (ii) specific conditions to public health and protect consumers interests. (i) General conditions: Basic food law requirements applying to all food imported into the European Union are as follows: Compliance or equivalence: Imported food must comply with the relevant requirements of food law or conditions recognized by the EU to be at least equivalent thereto. Traceability: The regulation defines traceability as the ability to trace and follow food and ingredients through all stages of production, processing and distribution; it also contains general provisions for traceability which cover all food business operators, without prejudice to existing legislation on specific sectors such as beef, fish, genetically modified (GM) food, and others. Importers are similarly affected as they will be required to identify from whom the product was exported in the country of origin. Unless specific provisions for further traceability exist, the requirement for traceability is limited to ensuring that businesses are at least able to identify the immediate supplier of the product in question and the immediate subsequent recipient, with the exemption of retailers to final consumers (one step back-one step forward). Responsibilities of food importers: Food business operators at all stages of production, processing and distribution within the businesses under their control must ensure that foods satisfy the requirements of food law which are relevant to their activities. If a food business operator has reason to believe that imported food is not in compliance with the food safety requirements, it must immediately initiate procedures to withdraw the food in question and inform the competent authorities thereof. (ii) General foodstuffs hygiene rules: The relevant hygiene rules of food which need to be respected by food business operators in third countries are as follows: General obligation on the operator to monitor the food safety of products and processes under his responsibility; 62 The following information draws on material available at the European Commission s Helpdesk for developing countries. Available: 63 The European Union Emissions Trading Scheme (EU-ETS) applies to large emitters of carbon dioxide (CO2) within the European Union. They are required to monitor and annually report their CO2 emissions, and they are obliged every year to return an amount of emission allowances to the government that is equivalent to their CO2 emissions in that year. The allocation could cause possible "leakage" (carbon leakage) of emissions outside the European Union by increasing emissions in countries that have weaker regulation of emissions than the regulation in another country or sector.

59 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 147 General hygiene provisions for primary production and detailed requirements for all stages of production, processing and distribution of food; Microbiological criteria for certain products; Procedures based on Hazard Analysis and Critical Control Point (HACCP) principles; and Approval and registration of establishments. (iii) General conditions concerning contaminants in food: Contaminant substances may be present in food as a result of the various stages of its production and marketing or due to environmental pollution. Since they represent a real risk for food safety, the European Commission has taken the following measures to minimize the risk by setting maximum levels for certain contaminants in foodstuffs: Maximum levels of certain contaminants in foodstuffs: Certain foodstuffs (i.e. fruit, vegetables, nuts, cereals, fruit juices, and others) must not, when placed on the market, contain higher contaminant levels than those specified in Commission Regulation (EC) No 1881/2006 (CELEX 32006R1881). 64 This regulation covers four different categories of contaminants: nitrates, aflatoxins, heavy metals (lead, cadmium, mercury) and 3-monochloropropane-1,2diol Figure B 3.1. Health Control Requirements on EU Agri-Food Imports Health control of non-animal foodstuffs Health control of products of animal origin for human consumption Plant health control Basic Food law requirement Genearl foodstuffs hygiene rules, inl. HACCP General onditions on contaminants in food Control of foodstuffs Country Health Approval Approved establishments Health certificates Import bans Phytosanitary Customs Inspections Import equivalence requirement Responsibilities of Food Importers Traceability requirement Health conditions related to the public and the livestock protection Health control Importers register Inspection Procedure Advance notice on imports (3-MCPD), and others. The maximum contaminant levels relate to the edible part of the foodstuffs but apply also to the ingredients used for the production of compound foodstuffs. Maximum levels of pesticide residues in and on food: Member States may restrict the putting on the market within their territories of certain products containing pesticide residues if the quantity of these residues exceeds the maximum levels permitted presenting an unacceptable risk to humans. These limits depend on the toxicity of the substance in question. Maximum levels of radioactive contamination of foodstuffs: Council Regulation (EC) No 3954/1987 (OJ L /12/1987) (CELEX 31987R3954) and Commission Regulation (EC) No 944/1989 (OJ L /04/1989) (CELEX 31989R0944) lay down the maximum 64 For product listing, see

60 148 permitted levels of radioactive contamination of foodstuffs (either immediately or after processing) which may be placed on the market following a nuclear accident or any other case of radiological emergency. There is a list of minor foodstuffs (i.e. those which are consumed least) for which the maximum permitted levels are considerably higher (ten times higher). Materials intended to come into contact with foodstuffs: Materials and articles intended to come into contact with foodstuffs must be manufactured so that they do not transfer their constituents to food in quantities which could endanger human health, change the composition of the food in an unacceptable way or deteriorate the taste and odor of foodstuffs. Regulation (EC) No 1935/2004 of the European Parliament and of the Council (CELEX 32004R1935) establishes a list of groups of materials and articles (such us plastics, ceramics, rubbers, paper, glass, and others.) which may be covered by specific measures that include a list of the authorized substances, special conditions of use, purity standards, and others. 65 Specific measures exist for ceramics, regenerated cellulose and plastics. Special provisions on Genetically Modified (GM) food: In order to ensure the highest level of protection of human health, EU legislation provides for a single authorization procedure for the placing on the market of food containing, consisting of or derived from Genetically Modified Organisms. An application must be sent to the competent authority of a Member State and then referred to the European Food Safety Authority (EFSA) which carries out a risk assessment. On the basis of the opinion of EFSA, the Commission drafts a proposal for granting or refusing the authorization, which must be approved by the Standing Committee on the Food Chain and Animal Health. The authorized food and feed are entered in the Community Register of GM food and feed. Novel foods (i.e. foods and food ingredients that have not been used for human consumption to a significant degree within the EU before 15 May 1997) must also undergo a safety assessment before being placed on the EU market. Companies that want to place a novel food on the EU market must submit their application to the competent body of a Member State for risk assessment purposes. As a result of this assessment, an authorization decision may be taken. The authorization decision defines the scope of the authorization, the conditions of use, the designation of the food or food ingredient, its specification and the specific labeling requirements. Novel foods or novel food ingredients considered by a national food assessment body as substantially equivalent to existing foods or food ingredients may follow a simplified procedure, only requiring notifications from the company. General conditions of preparation of foodstuffs: EU legislation lays down the rules relating to treatment of foodstuffs, food ingredients and their conditions of use in order to protect the health of consumers and guarantee the free circulation of foodstuffs in the European Union market. Moreover, specific provisions for groups of foods are laid down in specific Directives. These include compositional requirements, hygiene requirements, list of additives, purity criteria, specific labeling requirements, and others, as follows: Authorized food additives and flavorings: The scope of the Directives covers food additives and flavorings used as ingredients during the manufacture or preparation of food and which is part of the finished product. The only substances which may be used as food additives are those included in the approved common lists and then only under the conditions of use mentioned in those lists (e.g. colorants, sweeteners, preservatives, emulsifiers, stabilizers, raising agents, and others). 65

61 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 149 Preparation and treatments of certain foodstuffs: There are also rules in relation with the manufacture, marketing and importation of foods and food ingredients that are subject to specific treatments such as Council Directive 89/108/EEC (OJ L-40 11/02/1989) (CELEX 31989L0108) on quick-freezing or Directive 1999/2/EC of the European Parliament and of the Council (CELEX 31999L0002) on ionizing radiation. 66 Specific provisions for certain groups of products and for foodstuffs for particular nutritional purposes: Specific provisions are applied to certain groups of products (such as cocoa, sugar, and others.) and to foodstuffs intended for particular nutritional uses (baby foods, dietary foods, gluten-free foods). These may include specific requirements on composition, hygiene, labeling (e.g. declaration of the energy value, carbohydrate, protein and fat content), list of additives, purity criteria, and others. (iv) Control of foodstuffs: Regulation (EC) No 882/2004 of the European Parliament and of the Council (CELEX 32004R0882) establishes the EU framework of general rules for the organization of official controls on foodstuffs. 67 The competent authorities in Member States will carry out regular controls on imported food of non-animal origin to ensure they comply with the EU general health rules designed to protect health and interests of consumers. The control may apply to import into the EU and/or to any other stage of the food chain (manufacture, processing, storage, transport, distribution and trade) and may include a systematic documentary check, a random identity check and, as appropriate, a physical check. Besides, Commission Regulation (EC) No 669/2009 (CELEX 32009R0669) establishes that imports of certain food products must be subject to an increased level of official controls at the designated point of entry on the basis of a known or emerging risk. 68 The release for free circulation of these products is subject to the presentation of a Common Entry Document (CED) according to the provisions of this Regulation. (b) Health control of products of animal origin for human consumption: Imports of products of animal origin intended for human consumption must comply with the following health requirements related to: (i) Health conditions related to the public and the livestock protection; (ii) country health approval; (iii) approved establishments; (iv) health certificates; and (v) health control. Products can only be imported into the European Union if they come from an approved establishment of a third country included in a positive list of eligible countries for the relevant product, are accompanied by the proper health certificates, and have succeeded the mandatory control at the pertinent Member State s border inspection post (BIP). Compliance with these requirements is closely related to the fulfillment of certain conditions laid down in order to protect public and animal health. However, the European authorities might suspend imports from all or part of the third country concerned or take interim protective measures when products may present any risk for public or animal health as in the case of dangerous diseases outbreaks. (i) Health conditions related to the public and the livestock protection: Health requirements check compliance with conditions of public and animal health are designed to avoid transmission of diseases to either the public or the livestock. Such conditions mainly include the following: General principles and requirements of Food Law established in Regulation (EC) No 178/2002 of the European Parliament and of the Council (CELEX 32002R0178); 69 General foodstuffs hygiene rules and hygiene specifications for food of animal origin according to Regulation (EC) No 852/2004 and 853/2004 of the European 66 See 67 See 68 See 69 See

62 150 Parliament and of the Council (CELEX 32004R0852) (CELEX 32004R0852) respectively; 70 Animal Health conditions laid down in Council Directive 2002/99/EC (CELEX 32002L0099); 71 Measures to monitor the presence of residues of pesticides, veterinary medicines and contaminants in and on food of animal origin; 72 Animal welfare requirements, such as the specific provisions for slaughtering animals of Council Directive 93/119/EC (OJ L /12/1993) (CELEX 31993L0119); 73 Special provisions on genetically modified (GM) food and novel food according to Regulation (EC) No 1829/2003 of the European Parliament and of the Council (CELEX 32003R1829) and Regulation (EC) No 258/97 of the European Parliament and of the Council (OJ L-43 14/02/1997) (CELEX 31997R0258); 74 Specific conditions of preparation of foodstuffs; 75 General conditions regarding materials and articles in contact with food products in accordance with Regulation (EC) No 1935/2004 of the European Parliament and of the Council (OJ L /11/2004) (CELEX 32004R1935); 76 (ii) Country Health Approval: The European Commission s Health and Consumer Protection Directorate-General (DG SANCO) applies a procedure to assess the candidate s third country compliance with EU Public and Animal Health conditions in which one of the steps is an on-site review by a team of experts of the Food and Veterinary Office (FVO). Once approved, the third country and/or part of third country is added to the list of authorized countries for that particular category of product. These lists are published in EU legislation. (iii) Approved establishments: In addition to country approval, most products of animal origin may only be imported into the EU if they have been dispatched from, and obtained or prepared in, establishments (slaughterhouse, cutting plant, process plant, etc) that appear on a list approved by the Health and Consumer Protection Directorate General (DG SANCO). (iv) Health certificates: Imports of products of animal origin into the EU must be accompanied by a health certificate signed by the representative of the competent authority in the exporting third country certifying that the products in question are suitable to be exported to the EU. (v) Health control: On arrival, the products and the accompanying certificates must be verified and checked by the veterinarian officials in accordance with the provisions laid down in Council Directive 97/78/EC (OJ L-24 30/01/1998) (CELEX 31997L0078). Applying the procedures laid down by Commission Regulation (EC) No 136/2004 (OJ L-21 28/01/2004) (CELEX 32004R0136), the result of the inspection must be reflected in the Common Veterinary Entry Document (CVED). (c) Plant health control: The imports into the European Union of plants, plant products and any other material capable of harboring plant pests (e.g. wooden products and containers, soil, and others) are possibly subject to the following protective measures: (i) import bans; (ii) phytosanitary certificate and/or phytosanitary certificate for re-export; (iii) customs Inspection and plant health checks; (iv) importers register; (v) advance notice on imports. These phytosanitary measures 70 See 71 See See

63 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 151 are intended to prevent the introduction and/or spread of pests and organisms harmful to plants or plant products across the EU boundaries. Those measures enforce the International Plant Protection Convention of the Food and Agriculture Organization (IPPC-FAO), to which EU Member States are contracting parties and which sets out the basic rules and control procedures to secure a common and effective action to protect the countries agricultural and forestry resources. The IPPC requires every contracting country to establish a national plant protection organization to inspect growing crops and to report on pests and control them. A complete listing of the national plant protection organizations (NPPOS) can be found at the official website for the IPPC. 77 French Overseas Departments and Spanish Canary Islands, in view of its agricultural and ecological characteristics, may request additional conditions to those laid down in the Directive assuming they are justified on grounds of the protection of health and life of plants in their territories. Council Directive 2000/29/EC establishes several exemptions for each phytosanitary measure (e.g. plants and plant products for trial, scientific purposes, work on varieties selection; internal transit; small quantities that do not pose a risk of spreading harmful organisms and others.). They are usually granted for a limited period, subject to special import conditions and to a specific license. (i) Import bans: Member States must ban the introduction into their territory of: Certain particularly dangerous harmful organisms, which are listed in Annex I, Part A to Council Directive 2000/29/EC. 78 Plants and plant products listed in Annex II, Part A, where they are contaminated by the relevant harmful organisms listed in that part of the Annex to the Directive. 79 Plants or plant products listed in Annex III, Part A, where they originate in the relevant countries referred to in that part of the Annex to the Directive. 80 Plants, plant products and other objects listed in Annex IV, Part A, except for those meeting the special requirements indicated in that part of the Annex to the Directive. 81 In relation to wood packaging, the provisions establish that wood packages of any type (cases, boxes, crates, drums, pallets, box pallets and other load boards, pallet collars, and others) must go through one of the approved treatments specified in Annex I to FAO International Standard for Phytosanitary Measures No. 15, bear the corresponding mark as specified in Annex II and be made from debarked wood. 82 (ii) Phytosanitary certificate and/or phytosanitary certificate for re-export: Imports of plants and plant products must be accompanied either by an official phytosanitary certificate or a phytosanitary certificate for re-export (in case the consignment after being dispatched from a third country, has been stored, repacked or split up in another non-eu country). Those documents certify the phytosanitary conditions of plants and plants products, and also that the shipment has been officially inspected, complies with statutory requirements for entry into the EU and is free of quarantine pests and other harmful pathogens. They must be at least in one of the official languages of the EU and must be issued by the designated authorities of the third country of export or re- 77 Available at 78 See list at 79 See list at 80 See list at 81 See list at 82 Annex I is available at Annex II is available at

64 152 export and made out not more than 14 days before the date on which the plants, plant products or other objects covered by it have left the country of issuance. Phytosanitary certificates must be issued in compliance with the provisions of the IPPC and taking into account the FAO International Standard for Phytosanitary Measures No 12 on Guidelines for phytosanitary certificates. 83 (iii) Customs inspection and plant health checks: In addition to the above mentioned certificates, the plants and plant products must, from the time of their entry in the EU, be subject to customs inspections and supervision by the responsible official bodies. The inspections must consist in: Documentary checks establishing that the required certificates, alternative documents or marks have been issued or satisfied Identity checks establishing that the plants, plant products or other objects conform to the ones declared on the required documents and Plant health checks establishing that the plants, plant products or other objects, including their wood packing material if any, comply with the specific requirements and phytosanitary measures specified in Council Directive 2000/29/EC and can be imported into the EU. The inspections must be made at the point of entry into the EU at the proper Member State s border inspection post (BIP). However, identity checks and plant health checks may be carried out at the place of destination provided that there is satisfaction of specific guarantees and documents regarding transport of plants and plant products determined for each particular case (iv) Importers register: Importers, whether or not producers, of plants, plant products or other objects must be included in an official register of a Member State under an official registration number. (v) Advance notice on imports: Member States may require airport authorities, harbor authorities, importers or operators to give, as soon as they are aware of the imminent arrival of a consignment of plants, plant products and other objects advance notice to the customs office of point of entry and to the official body of point of entry. In addition and without prejudice to provisions of Council Directive 2000/29/EC, plants, plant products and any other material capable of harboring plant pests may be subject to emergency measures. 84 (vi) Inspection Procedure: Imports of plant and plant products can only be done through the authorized points of entry and from the time of their arrival will be subject to the supervision of the officials of the competent authorities under customs surveillance. The importer or its representative must give advance notice of the arrival and submit a request for inspection that should at least contain: The Taric code (the product identification in the European Integrated Tariff Nomenclature) An statement indicating that the consignment contains produce of phytosanitary relevance Reference number(s) of the required phytosanitary documentation Official registration number of the importer The inspections will consist in documentary checks, identity checks and, when judged necessary by the competent officials, also plant health checks. Release from customs can only be done after a favorable result. 83 For details on the standards, see 84 For coverage of emergency measures, see emergency_measures.pdf

65 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 153 (d) Packaging: All foodstuffs marketed in the European Union must comply with EU labeling rules, which aim at ensuring that consumers get all the essential information to make an informed choice while purchasing their foodstuffs. Hence, the applicable labeling provisions are as follows: (i) General rules on food labeling; (ii) specific provisions for certain groups of products: Labeling of Genetically Modified (GM) food and Novel Food Labeling of foodstuffs for particular nutritional purposes Labeling of food additives and flavorings Labeling of materials intended to come into contact with food Labeling of particular foodstuffs (e) General rules on food labeling: Labels of foodstuffs must contain the following details: The name under which the product is sold. No trademark, brand name or fancy name may substitute the generic name but rather may be used in addition. Particulars as to the physical condition of the foodstuff or the specific treatment it has undergone (powdered, freeze-dried, deep-frozen, concentrated, smoked, irradiated or treated with ionizing radiation) must be included where omission of such may confuse the purchaser. The list of ingredients, preceded by the word Ingredients, must show all ingredients (including additives) in descending order of weight as recorded at the time of their use in the manufacture and designated by their specific name. In the case of those products that may contain ingredients liable to cause allergies or intolerances, such as alcoholic beverages, a clear indication should be given on the label by the word contains followed by the name of the ingredient. However, this indication will not be necessary provided the specific name is included in the list of ingredients. The net quantity of pre-packaged foodstuffs in metric units for liquids and for non-liquids. The date of minimum durability consisting of day, month and year in that order and preceded by the words best before or best before end or the use by date for highly perishable goods. Any special conditions for keeping or use. The name or business name and address of the manufacturer, packager or importer established in the EU. Place of origin or provenance Instructions of use, where appropriate. Lot-marking on pre-packaged foodstuffs with the marking preceded by letter L.These particulars must appear on the packaging or on a label attached to pre-packaged foodstuffs. In the case of pre-packaged foodstuffs intended for mass caterers (foodstuffs sold in bulk), the compulsory labeling particulars must appear on commercial documents while the name under which it is sold, the date of durability or use-by-date and the name of manufacturer must appear on the external packaging. Where foods are pre-packed outside the European Union, the importer must ensure the packaging complies with EU rules on food packaging. Three types of packaging are used for food. Transport or export packaging is the outermost layer, which protects the product during transit. Outer packaging is an intermediate layer, for example a box containing several bags, tins or pouches of product, which is sometimes used to display goods in a retail environment. Sales packaging is the immediate layer of packaging around the goods.85 There are a number of requirements in EC Regulation No 1935/2004 that cover packaging for foods and other materials. As well as dealing with packaging in direct contact with food, the 85 his material draws from Food labeling and Packaging in International Trade. Available: action/detail?type=resources&itemid= &r.s=e&r.l1= &r.lc=en&r.l3= &r.l2= &r. i= &r.t=resources

66 154 rules cover packaging capable of affecting food through the migration of its constituents into the food. Key rules include: (i) aluminum is considered safe for food contact, although it may not be suitable for highly acidic foods such as tomatoes and soft fruits; and (ii) plastics are subject to an overall migration limit of 10 milligrams per square decimetre of plastic surface area or per kilogram of food. There are also many specific migration limits that apply to individual substances contained in the regulations, whether they are plastic monomers or plastics additives that are used to achieve a particular technical effect. There are also rules about the use of declarations of legal compliance that apply to packaging moving up and down the supply chain. Other specific rules apply to regenerated cellulose film, ceramics, plasticisers in seals for food containers, certain epoxy derivatives used in coatings, adhesives and plastics when used in contact with food. Rules apply to contamination from chemicals, including mycotoxin contamination (in, for example, cereals and dried fruit) and radiological contamination from the use of pesticides and animal medicines, as well as nitrates from green, leafy vegetables. The overriding rule is that any packaging materials must not allow their constituents to migrate into the food in quantities that could harm human health or affect the nature or quality of the food. To this end, for those that manufacture or convert packaging materials into particular food packaging, there are also rules about the documentation of good manufacturing practice within the business. Packaging that meets the requirements for food contact is labeled for food contact and may also bear a specific symbol resembling a wine glass and a fork. New types of packaging material that actively maintain or improve the condition of food, as opposed to simply containing it, are now available. Other materials, known as intelligent packaging, monitor the condition of the food. These active packaging materials must comply with regulations on food additives, and these and the intelligent packaging technologies should not be used to disguise problems such as spoilage. Information should be given on the package to help consumers use them safely. (f) Rules of Origin Applicable to GSP Status: The major materials such as fruits, nuts or other parts of plants and animals used in processing should be wholly obtained in the originating country, that is, Indonesia. Manufacturing material used in the processing of the product should not exceed 30 percent of the ex-works price of the product for the non-originating materials. B.3.2 Value Chain Analysis The value chain of the Indonesian food processing industry can be described in terms of the activities starting with the purchase of raw materials through to marketing in the European Union. Figure B3.2 illustrates the value chain for the food processing industry with focus on fruit juice production. The figure shows the relationships between the various actors within the value chain and illustrates the flow of goods from raw material supply to the end consumer. The figure also shows all relevant quality and product safety requirements for conformity assessment. The European Union s nonanimal EU food regulations apply to fruit juices. Thus the general EQI issues in the fruit juice supply chain discussed in this section are a relevant example for other food of non-animal origin. An integrated approach is necessary in order to achieve food safety and quality beginning with primary production (farming) through to the export of the products and the distribution to consumers. Every actor in the food value chain must ensure that food safety is not compromised. The following sections describe how and where the actors in the value chain have to deal with these requirements followed by general issues related to food safety that are important throughout the entire value chain. Step 1 Fruit Farming Process Description: Fruit farming, also called primary production, includes all steps in the harvesting and pre-processing phase such as removing leaves, washing and sorting up to transport to the processor or middleman. In Indonesia fruit is mostly grown on small farms, which can be classified

67 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 155 Figure B 3.2. Value Chain of Food Processing Industry with Focus on Fruit Juice Production Good Agriculture Practice Farming of Fruits Product Design BPOM Registration Good Handling Practice Transport Incoming Inspection Laboratories Tests Processing Good Manufacture Practice Laboratory Final Inspection Specification Packaging & Labeling Notification in European Union Export Notification on Dangerous Consumer Products Border Inspection Market Surveillance Warehouse RASFF Outlets either as micro scale enterprises (MSEs) or Small and Medium sized Enterprises (SME). Some large farms specialize in certain fruit types e.g. one large farm located in Sumatra specializes in pineapples, which are processed into canned pineapple and pineapple juice. EQI Issues: In farming, which is the first step in the value chain, various safety issues must be considered. Contamination or inadequate product handling will have a negative impact on the end product and therefore must be avoided by applying hygiene regulations in all process steps including storage and transport to the processor. Good Agriculture Practices (GAP) should be applied in farming to avoid contamination arising from

68 156 soil, water, fertilizer, plant protection and biocides. The European Union has a regulation on maximum residue of pesticides in, or on, food. 86 This regulation sets maximum values in fruit juice for patulin and lead (Pb) at 50 micrograms per kilogram (µg/kg). 87 Records have to be kept to control hazards, particularly on the use of plant protection products, biocides, and occurrence of pest and diseases - and of the test results. The alteration of the nature of primary products during transport, storage and handling has to be avoided. Therefore storage containers and vehicles must be clean and must be sterilized if necessary. The good health of staff must be ensured. HACCP (Hazardous Analysis and Critical Control Point) and hygiene are the most frequently applied measures in food safety to ensure stable products. However, since the application of HACCP is generally not feasible for primary fruit producers, the application of Good Agriculture Practices (GAP) is required. MSEs and SMEs: It appears that large Indonesian fruit juice producers are not interested in cooperating with small and medium size farmers since they cannot provide a reliable supply of fruits and are not able to apply Good Agriculture Practices (GAP) such as GLOBALG.A.P. In order to address this problem the Indonesian Ministry of Agriculture has developed a strategy to improve the agriculture sector in Indonesia that focuses on: (i) increase of production quantity; (ii) reduction of losses due to non-conforming product; (iii) quality and safety of the food and (iv) sustainability of supply. The Ministry is currently developing a guidebook on Good Agriculture Practices based on GLOBALG.A.P to encourage the implementation of good hygiene practices in MSEs and SMEs. 88 In order to increase the number of farmers applying GAP, the Ministry of Agriculture has developed a certification scheme aimed at small farmers who would like to develop their quality and food safety management. The system has three levels: the lowest level is called Prima 3 and focuses on the management of residues. The second level is Prima 2 and includes the entire Hazardous Analysis and Critical Control Point (HACCP) food safety system. The highest level is Prima 1 and is equivalent to GLOBALG.A.P. At the same time the Ministry of Agriculture 89 is working on a model for farming groups. 90 The objective being to increase the competitive advantage of small farmers due to economies of scale, to facilitate access for farmers to bank loans and to increase the quality and safety of their produce by implementing a food quality and safety management system. This farming group system has been developed based on the Internal Control System (ICS) of IFOAM. 91 To stimulate the widespread use of this model, the Ministry of Agriculture provides a revolving fund for farmer groups allowing them to access loans up to Rp 100 million for investment. Funds generated by repayment of these loans will then be provided to other farming groups as a revolving fund. In order to participate in this loan scheme farmer groups have to register with their district government. Prior to any loan disbursement the district government will evaluate the performance of the group. Conclusions: It is currently difficult for MSE and SMEs to adapt their activities to ensure that food placed on the market meets the required standard of food safety. By this reason larger fruit processors are reluctant to cooperate with smaller farmers and prefer to operate their own farms or purchase fruit pulp from foreign suppliers In order to achieve a significant increase in processed fruit or fruit juice originating from Indonesian 86 See Regulation (EC) No 396/2005 on maximum residue levels of pesticides in or on food and feed of plant and animal origin 87 See Commission Regulation (EC) No 1881/2006 setting maximum values for certain contaminants in foodstuffs 88 See 89 Direktorat Jenderal Pengolahan dan Pemasaran Hasil Pertanian, Departmen Pertanian 90 Pedoman system pengawasan internal (SPI) / Internal control system (ICS) pada penerapan system jaminan mutu hasil pertanian berbasis kelompok, not published yet 91 Revised IFOAM Producer Manual for Setting Up and Harmonizing an Internal Control System (ICS), May 2004, available at www. ifoam.org/about_ifoam/standards/ics.html

69 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 157 farms for export it will be necessary to improve various aspects of fruit farming in Indonesia. The application of hygiene and GAP in all steps of primary production (farming, pre-processing, storage and transport) will be required. It appears more feasible to approach this goal by forming farmer groups rather than by dealing with a huge number of single MSEs and SMEs. The Indonesian Ministry of Agriculture has set up programs to promote the establishment of farmer groups and to support the application of GAP including certification schemes. It must be noted that the task on hand is of an enormous proportion due to the size and geographical nature of Indonesia, which consists of more than 17,000 islands spread over a vast area. Step 2 Purchasing of Materials and Incoming Inspection Process Description: During the purchasing process all material required for processing the finished product, including suitable packaging material, is purchased from selected suppliers. Supplied material is inspected with regard to quantity and quality. The degree and effort for incoming inspection depends on material specifications and to a very large extent on the reliability of suppliers. The inspection of fruits and packaging material is mostly by visual inspection only. EQI Issues: In the purchasing process EQI issues are related to contaminants that are permissible in the product up to a certain concentration specified in EU regulations. It has to be ensured that the raw material purchased does not contain these substances at a level that will exceed the maximum allowed contaminant level in the final product. Processors should also not accept raw materials that are contaminated with parasites or pathogenic micro-organism or are toxic or decomposed. Purchasing documents for such raw materials should reflect these requirements. In fruit juice production usually only visual inspection is performed, with fruits that appear to be in an unacceptable condition being rejected. Since this procedure does not allow detection of contaminants the risk of exceeding allowed contaminant level in the final product is very high if traceability to the farmers cannot be ensured SMEs and MSEs: Fruit juice producers that are aiming to export to the European Union depend on a reliable supply of fruit that has been farmed under controlled conditions. Since most small and medium size farmers do not apply Good Agriculture Practices (GAP) as required fruit juice exporters prefer to use fruit grown on their own controlled farms. In order to include SMEs and MSEs into the supply chain it will be required to support them in GAP application which appears to be only feasible if they can be convinced to work in groups or cooperatives. Conclusions: Indonesian fruit juice producers, especially those that are exporting their products to the European Union, are facing a serious supply problem, as supplies from small farms are unreliable and uncontrollable. Since most fruit juice producers do not want to get involved in fruit farming and those who do are confronted with limitations on the availability of land for farming, no significant growth in fruit juice export can be achieved as long as the small farmers cannot fulfill the requirements of GAP and traceability. Step 3 Processing Process Description: Fruit juice processing is characterized by mainly mechanical activities supported by heating and cooling activities. All ingredients, natural and chemical, are combined in different process steps until the end product is achieved. Heat processes are mostly applied for sterilization. The principal processes of fruit juice production can be described as follows: Supplied fruit is washed and sorted to distinguish between sufficiently ripe fruit and fruit that will have to be stored for further ripening. All ripe fruit will then be peeled and cut and the seeds are removed. The fruit pieces are then blended to pulp, which is passed through a sieve in order to obtain fruit juice. After sieving the juice goes through a pasteurization process at a temperature of 60-70C. The

70 158 juice is then cooled down quickly and stored at cold storage at 15C before it is filled into either bottles or laminated boxes such as the well-known TETRA PAK range. The finished product is then packed in cardboard boxes for storage and transport. EQI Issues: The processing of food products has to be performed under conditions of Good Manufacturing Practices (GMP) and with an established Hazard Analysis and Critical Control Point (HACCP) system. Hygiene has to be ensured to control hazards and ensure that the food is fit for human consumption. A study has shown that recalls of food are mostly related to failures in GMP. 92 GMP provides hygiene requirements related to various elements: buildings and equipment, sanitation and hygiene, production, warehouses, quality assurance, documentation, internal audit, complaints and product withdrawals. Pest control as well as the number of lavatories and wash basins has to be considered. In all areas where foodstuff is processed it must be ensured that tables, walls, ceilings, doors and equipment are designed in a way that they do not easily accumulate dirt and are easy to clean. All surfaces and items have to be regularly cleaned and, if necessary, disinfected. Special attention has to be given to the cleaning of equipment that comes in direct contact with the product. Adequate potable water supply has to be ensured. Personal hygiene is of utmost importance. Every person handling food in the process area has to maintain a high degree of personal cleanliness and shall wear suitable protective clothing. No person suffering from diseases that can be transmitted by food is allowed to enter the food processing area. Food waste has to be stored separately from products and ingredients and has to be removed from the production area quickly and regularly. HACCP is a system to control the most important critical control points of a process. In accordance with EU regulations food processors are required to implement HACCP. The implementation of a HACCP system in food processing should be done under consideration of Codex Alimentarius. 93 With HACCP the critical points in production are identified and control measures are established at these points. In fruit juice production the most critical process steps are related to the sterilization process. The sterilization process has to be observed very carefully since the temperature and duration of the heating process are very critical parameters. If the heating time is too short or the temperature too low the product will not be sterilized as intended. The product will deteriorate if the heating time is too long or if the temperature is too high. Therefore careful monitoring and recording to these two parameters is required. After the sterilization process at high temperature the product has to be cooled down to about 15C as quickly as possible to avoid any unintended product alterations during the process. SMEs: SMEs are also often not aware of hygiene problems and the advantages of GMP practices and many regard the HACCP system as too administrative, too complicated and expensive. SMEs are unaware that these systems requirements are proportional to the business size and nature of its activities, and thus not as demanding for SMEs carrying out a simple process than for large companies with complex processes. Conclusions: At present only large Indonesian fruit juice producers apply GMP and HACCP whilst most SME juice processors do not. Therefore the majority of fruit juice producers cannot ensure sufficient hygiene and product safety. Step 4 Final Inspection Process Description: After the production process is completed the product has to be tested for specifications related to quality and health safety. EQI Issues: During final inspection fruit juices should be tested for pesticides, heavy metal and microbiological criteria in relation to food safety. Certificates on these tests are usually required by EU clients. Additional analyses are conducted regarding acidity, total suspended solids, vitamin C, water 92 See S.Kumar and E.M.Budin, Prevention and management of product recalls in the processed food industry: a case study based on an exporter s perspective, Technovation26(2006) See Codex Alimentarius Standard of WHO/FAO:

71 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 159 content, sum of sugar (saccharose, fructose) and citrate acid. Testing can be performed in company owned laboratories or in external laboratories. Large companies usually have their own quality laboratory while smaller companies mostly rely on testing in external laboratories. SMEs: Most small and medium size fruit juice producers cannot afford to operate their own test laboratories due to the high cost of analytical equipment and operational costs. SMEs consider testing in external laboratories to be too expensive and therefore many SMEs do not test their products regularly. Conclusions: Due to cost constrains most SMEs do not conduct the required analysis and testing at final inspection and are therefore not able to ensure sufficient hygiene and product safety. These producers do not qualify for export. Only a very limited number of larger fruit juice producers can afford all required test and data for conformity assessment. Step 5 Packaging, Labelling and Storage Process Description: The product is packed, labeled and stored in the warehouse. Packaging material is divided into three categories (a) sales packaging or primary packaging (also called wrapping), (b) grouped packaging or secondary packaging, (c) transport packaging or tertiary packaging. All labels applied have to be in compliance with the requirements of the destination market. EQI Issues: EQI requirements are related to three issues: packaging material, labeling, and storage of the product. (i) Packaging Material: Packaging material must ensure that the products cannot be damaged and that the quality of the product will not deteriorate. Primary wrapping material, which comes in direct contact with the food, must be of food grade to secure a high level of protection of human health. 94 These wrapping materials have to be manufactured in compliance with good manufacturing practice to avoid endangering human health, bringing unacceptable changes in the composition of food and bringing deterioration in the organoleptic characteristic of the food. When placed on the market the wrapping material has to bear the words for food contact and the logo in this respect. Traceability of the material must also be ensured. For exports to the European Union, Section 3.1 provides information about the packaging and packaging waste requirements. They refer to the prevention of packaging waste and reuse of packaging, recycling and other forms of recovering packaging waste and the reduction of the final volume of such waste. (ii) Labeling: Labels must ensure that sufficient information is provided In accordance with EU requirements labels of foodstuff must contain information as described in detail in chapter 3.1. Specific labeling requirements regarding fruit juice require information on the composition of the juice (from one fruit or mixture of fruits), any sweetening of the product and if the product has been obtained entirely or partly from a concentrate. 95 A recent study found that a large percentage of recalls were caused by incorrect labeling and packaging. 96 (iii) Storage: Products and materials must be stored to ensure that the quality of the product does not deteriorate Processed fruit juice, as well as ingredients such as fruits, vitamins and sugar, must be stored in such a way that they will not get damaged. The temperature of the product has to be carefully monitored during storage. Fruit juice in particular cannot be stored safely at ambient temperatures and needs cooling throughout storage and transport. 94 See Regulation (EC) No 1935/2004 on materials and articles intended to come into contact with food 95 For more details see website and related regulations mentioned on this website 96 See S.Kumar and E.M.Budin, Prevention and management of product recalls in the processed food industry: a case study based on an exporter s perspective, Technovation26(2006)

72 160 Conclusions: Packaging material has to be in accordance with EU regulations. Wrapping material that comes into contact with food must be of food grade. Labelling is a major issue for the export of food to the European Union. The EU regulations related to labelling have to be followed strictly to ensure proper marketing in the European Union. Food safety requirements (e.g. low temperature) have to be met during storage and transport. Step 6 Export to the European Union Process Description: The exported food must comply with the relevant requirements of the EU food law and has to be registered in the EU Member State of entry. Compliance with all applicable requirements on packaging and labeling has to be ensured. EQI Issues: Food of non-animal origin can enter the European Union without certification by the competent authority of the third country of dispatch and is not subject to a pre-notification procedure on arrival. However, the exporter or its representative has to notify the competent authority in the relevant member state of the European Union. Information required includes certificates related to food safety and quality systems such as ISO 9001, HACCP, GMP, ISO and product test certificates. The importer is also obliged to notify the competent authority of any significant change after registration. The aim of the notification is to enable the national competent authority in the Member State to perform official control. The details of the registration are determined by each Member State and aim at informing the authority of the importer s address and field of activity. Conclusions: The exporter or representative has to notify the competent body in the destination country before placing a new product on any market in the European Union. Hygiene Requirements Since 1993 EU regulations require that all food businesses after primary production (harvesting) must have in place, implement and maintain a management system based on Hazard Analysis and Critical Control Point (HACCP). 97 In 2006 new rules were established in the European Union regarding the hygiene of food of non-animal origin for food business operators. Requirements for producers in the European Union and importers from third countries are described in section 3.1 above. They refer to the obligation of operators to monitor the food safety of products and processes, general hygiene for primary production and post-primary production processes. The processor has to implement Hazard Analysis and Critical Control Point (HACCP) principles to an extent depending on the nature and size of the business. The process-oriented principle that food business operators throughout the food chain have responsibility for ensuring that food placed on the market meets the required standard of food safety includes the primary production (farmers). Therefore most large food processors and their buyers require Good Agricultural Practice (GAP) from primary producers. Certification of international organizations such as GLOBALG.A.P satisfies this request. Traceability In order to be in line with the process-oriented principle in the food industry, traceability must be established at all stages of production, processing and distribution. All food business operators must be able to identify all sources of purchased goods as well as all destinations of goods supplied to others. Traceability is limited so that businesses are at least able to identify the immediate supplier of the product and the immediate subsequent recipient - with the exception of retailers. This principle is called one step back-one step forward. This information must be provided to the competent authority on demand. All food must also be adequately labeled to ensure traceability Council Directive 93/43/EEC on hygiene of foodstuff 98 See Regulation (EC) 178/2002 laying down the general principles and requirements of food law, establishing the European Food Safety Authority and laying down procedures in matters of food safety

73 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 161 Post Market Surveillance Process Description: Competent authorities carry out controls of food. 99 Such controls include inspections to food business operators and are also conducted on imported foodstuff. Failure to comply with hygienic requirements can result in withdrawal and/or the destruction of the foodstuff. In extreme cases it may even lead to the closure of the responsible business operator. Information regarding dangerous products may arise from the market surveillance of the member states or from the producer or distributor. EU member states have to perform market surveillance in their own state. EU member states have to ensure that only products that conform to EU requirements are sold on the market. Appointed inspectors perform market surveys in outlets and warehouses to verify the compliance of the product with all composition, packaging and information requirements. Distributors and producers also play a role in the provision of information and are obliged to inform the EU authorities if they know that a marketed product is dangerous. 100 RASFF Rapid Alert System for Food and Feed (RASFF): The aim of the rapid alert system is to notify all member states of direct or indirect risk deriving from food. If a food business operator has reason to believe that the food marketed is not in compliance with the food safety requirements, this operator is obliged to immediately initiate processes to withdraw the food from the market. The business operator has to inform the authorities immediately and to cooperate with them to avoid and reduce risks. 101 The number of RASFF from Indonesia for food from non-animal origin is as follows: 2010 (until October): 5; 2009: 7; 2008: 7; 2007: 6; 2006: 4; and 2005: 8. Certification EU regulations require that all food businesses after primary production (harvesting) must have in place, implement and maintain a management system based on Hazard Analysis and Critical Control Point (HACCP). Compliance with this requirement is demonstrated by presenting a current HACCP certificate. Conformity assessment bodies carry out regular inspections or audits and will issue a compliance certificate if all requirements are met. Ministry of Agriculture is only responsible for certification of unprocessed food of non-animal origin. Several private and government institutions are accredited as certification bodies for HACCP in Indonesia. Voluntary Food Certification GLOBALG.A.P.: Established in the 1990s, GLOBALG.A.P (formerly EUREPG.A.P) is a private sector body active in the certification of production processes of agricultural products around the world. GLOBALG.A.P is thus responsible for setting the standards of this voluntary certification. The G.A.P. in the title refers to Good Agricultural Practice (GAP). The purpose of this private standard is to ensure that consumers are aware of how food is produced in farms, to reduce the negative side-effects of farming on the environment, to minimize the use of chemicals and to guarantee health, safety and animal welfare. The standard sets certain regulations that farmers have to abide by and addresses the entire process. Compliance with regulations and standards is evaluated by third party auditors for certification. The name of the organization and its standard was amended to GLOBALG.A.P in September 2007 in anticipation of its global approach and application no longer limited only to Europe. Today, GLOBALG.A.P has established itself as the most implemented farm certification system in the world. 99 See Directive 89/397/EEC 100 See Directive (EC) 178/2002 laying down the general principles and requirements of food law, establishing the European Food Safety Authority and laying down procedures in matters of food safety 101 See Regulation (EC) 178/2002 laying down the general principles and requirements of food law, establishing the European Food Safety Authority and laying down procedures in matters of food safety

74 162 SQF: Safe Quality Food (SQF) was established in 1994 and is administered by the SQF institute that belongs to the Food Marketing Institute. The SQF program is a global food safety and quality management and certification program that provides independent certification. SQF is designed as a food safety program but also covers product quality issues. SQF offers two systems: SQF 1000 for primary production and SQF 2000 for food manufacturing and distribution. The programs provide three levels of certification: Level 1 food safety fundamentals covers prerequisite programs including fundamental food safety controls. This level is appropriate for low risk food; Level 2 Certified HACCP Food Safety Plan, which in addition to level 1, also includes the HACCP method; Level 3 Comprehensive Quality Management System Development adds a documented food safety assessment of the product and its processes to the requirements of Level 1 and 2. This labeling system is widely used by buyers in Europe and other countries to ensure the safety of the products purchased. BRC Global Standard for Food Safety: The Global Standard for Food Safety was developed in 1998 by the food service industry to enable suppliers to be audited by third party certification bodies against a single consistent standard thus reducing duplication of effort and enabling the retail industry to focus activities on areas of competitive advantage. 102 Standards are available for food processing, storage and distribution and packaging and packaging materials. Conclusion: Many buyers in Europe now require certification for food farming and/or production to ensure safety and quality of the foodstuffs. Despite the fact that these schemes are in principle voluntary, certification becomes a main criterion for acceptance of a new supplier. The selection of the adequate standard is usually determined by the buyer. Testing Laboratories Test results are required by food producers and authorities to ensure food safety. Laboratories can provide information about chemical and microbiological purity of products and raw materials. Sampling and testing is conducted for raw material inspection, in-process inspection and the final inspection of products. The authorities performing post-market surveillance take samples from the market, which are also analyzed in laboratories. Laboratories have the task of analyzing the composition of food products and raw materials. The analysis can include the main components of the material, and also the residues of restricted substances. Analytical methods have to be identified, verified and agreed upon for all the parameters to be analyzed. In Indonesia the National Agency for Food and Drugs BPOM is in charge for all mandatory food testing required by Indonesian regulations. BPOM has a central reference laboratory in Jakarta and several regional laboratories in the provinces. To date BPOM laboratories only provide services related to conformity assessment for compliance to Indonesian regulations and to providing health certificates for export products. In the near future BPOM will also conduct testing in accordance with ASEAN requirements. Private and other government laboratories provide testing services to the industry. A private laboratory performing tests on food is Sucofindo, while BBIA (Balai Besar Industri Agro), BBKK (Balai Besar Kimia dan Kemasan) and BPMBEI (Balai Pengujian Mutu Barang Export dan Impor) are government laboratories that provide tests on food products Certified Reference Material (CRM): In order to ensure traceability of test results all chemical and biological test methods shall be calibrated with adequate Certified Reference Materials. At present PPOMN provide pure CRM secunder (INORS), chemical and biological references, to be used for BPOM regional office laboratories or other laboratories in Indonesia and pure chemical CRM secunder for ASEAN (ARS). However, at present matrix based CRM is not produced in Indonesia, neither for chemical nor for biological reference. Therefore all CRM has to be imported at rather high prices and not many laboratories are using CRM due to the high cost. The research center for 102 See more details in

75 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 163 chemicals, RCChem - LIPI is designated to produce certified reference material for chemicals and is coordinating the production of CRM with selected other institutions. Once implemented, it can be expected that this program will solve the problem with CRM for chemicals. At present there is no plan to produce biological CRM in Indonesia and therefore the problems in this area will persist for the time being. Laboratories of BPOM: BPOM has one central reference laboratory and 30 testing laboratories in the provinces. All these laboratories conduct food and cosmetic testing, but also testing of drug/ therapeutics products, narcotics and psychotropics, household health care products, cigarettes, traditional medicines and biological products. The BPOM reference laboratory has the task of supporting the testing laboratories. The reference laboratory of BPOM has shortcomings in providing CRM and PT to its testing laboratories but is currently receiving support from PTB in order to become a producer of chemical CRM. BBIA: Balai Besar Industri Agro (BBIA) is conducting tests on food products for the industry. BBIA has a well equipped laboratory but still lacks the capability of analyzing certain parameters (e.g. polyaromatic hydrocarbon, Vitamin A, D, E, B6, B12, Pentotenic acid, Nicotinamide, Folic Acid) and testing with new fast microbiological and chemical analytical methods. BBIA plans to provide proficiency tests for quality laboratories of the industry and is also selected as one future provider of chemical CRM. BPMBEI: Laboratory for Quality Testing of Export and Import Goods / Balai Pengujian Mutu Barang Export dan Impor performs testing for export products. Amongst several other test services such as; testing of textile, toys, footwear, cosmetics, furniture, electric and electronic products, BPMBEI provides testing on food for various safety parameters. BPMBEI is well-equipped with measurement devices for testing food but does not provide information services. The laboratory appears not to be well-known to the food industry. BBKK: Balai Besar Kimia dan Keramik (BBKK) provides testing on food grade packaging material. Testing is performed in accordance with national and EN standards. BBKK also conducts tests of heavy metals in packaging material in accordance with directive 94/62/EC. In its food laboratory BBKK can conduct testing on food for various safety parameters. EQI Issues: EQI issues related to laboratories are twofold - problems to achieve traceability and lack of testing methods. Proficiency tests should be performed by all BPOM testing laboratories and also by all other food laboratories. At present, Proficiency Tests are not always regularly performed for all relevant test methods. In addition, CRM is not easily available and quite expensive and is therefore rarely used to establish traceability. Indonesian laboratories are currently unable to perform all testing and analysis required by the European Union. For certain parameters the laboratories either lack equipment, properly trained analysts or analytical methods. For some parameters the existing facilities do not allow analysis up to the required detection limit. Conclusions: Indonesian laboratories conducting food testing are confronted with difficulties to ensure the traceability of their test results. These problems arise from the fact that CRM is hardly available and relatively expensive coupled with the lack of proficiency test schemes. BPOM and BBIA are planning to produce chemical CRM within the coming years but a local producer for biological CRM is not likely to be available in the near future. BPOM and BBIA are planning to conduct more proficiency tests for food but may not be able to satisfy the huge demand for that service. All laboratories dealing with food testing will have to extend their scope on test methods in accordance with requirements of export markets such as the European Union. Required parameters and suitable test methods will have to be identified, applied and verified B.3.3. Industry Support Services Three organizations providing supporting services to the food industry sector have been identified:

76 164 GAPMMI (Gabungan Pengusaha Makanan dan Minuman Seluruh Indonesia), MOI (Ministry of Industry) and BBIA-MOI (Balai Besar Industri Agro). GAPMMI (Gabungan Pengusaha Makanan dan Minuman Seluruh Indonesia) was founded in The association aims to advance the Indonesian food business and hopes to create a business climate that is conductive to the growth and strengthening of the food and beverage industry through the promotion of healthy competition. GAPMMI aims to strengthen its members competence in the field of food safety, processing, health and nutrition. As a business association GAPMMI supports its members through programs that are beneficial for its members. For instance, GAPMMI acts as a moderator between the food industry, the Indonesian Government and the international market as well as provides information on the food business, regulations and technology. Additionally, the association offers support and training for members regarding quality improvement and food safety. GAPMMI also provides the food industry with support in the fields of technology, management and international marketing. Companies of any size in the food and beverage business and supporting industries may become members of GAPMMI. Other members are supplier companies (laboratory, machinery, packaging, raw materials, and food additives), exporters and importers of food products and raw materials or food distributors and retailers. GAPMMI is actively supporting SMEs on individual basis and by providing discussion fora. GAPMMI regularly conducts information seminars on various topics (e.g. seminars on Japanese import requirements coordinated with.japanese representatives are organized several times a year). MoI: The Directorate of Food and Beverage Industry of the Ministry of Industry (MoI) provides support to SMEs working in the fruit juice production sector. An example is a pilot project in Kuningan, West Java that supports farmers and fruit juice producers. Farmers are supported by capacity building on Good Agriculture Practices (GAP). Fruit processing companies are supported on fruit juice processing technology in an SME industry cluster. The support includes the provision of fruit juice processing equipment and capacity building. MoI works in cooperation with external consultants to enhance knowledge on best practices in fruit processing. The consultants train cluster members on processing methods for fruit juice best practices in peeling the fruit, pulping, filtration, mixing, pasteurization, filling into sterilized bottles and storage. BBIA: Balai Besar Industri Agro (BBIA) conducts research on food processing and provides consultancy, training and counseling to companies in the food production sector. BBIA is also an inspection body for the sterilization of food and inspects the temperature and time of the sterilization process. Such inspection is required for sterilization in the HACCP standard. BBIA provides also HACCP consultancy and certification. B.3.4. Regulatory Framework Food Safety: The Government of Indonesia has ratified the World Trade Organization (WTO) Sanitary and Phytosanitary (SPS) Agreement through Law No. 7/1994. In order to implement the law, specific requirements for nutrition labeling in foods in Indonesia have been established. Under Act No. 7/1996, every labels or advertisement of food must contain accurate information and the ingredients of the product. Regulation 69 provides additional requirements on food labeling and advertisement. The regulations also apply to foods claiming to contain nutrients, including energy, protein fat, and carbohydrate content as well as levels of vitamins and minerals. Nutrition labeling is also mandatory for foods that are required to be fortified or enriched with specific nutrients as required by the national legislations. The following information is required: (1) serving size; (2) number of serving per pack; (3) energy content per serving; (4) protein content per serving; (5) carbohydrate content per serving; (6) fat content per serving; (7) breakdown of the percentage of energy derived from fat, protein and carbohydrate; (8) percent of dietary allowances of nutrients; (9) amounts of other nutrients for which a claim is made; and (10) other nutrients that are considered relevant for the preservation of good nutritional status.

77 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 165 Packaging: Packaging requirements include the following: (1) free from micro-organisms and toxins harmful to the health of consumers; (2) free from any micro-organisms liable to proliferate during storage; (3) able to be kept without deterioration, stable and good commercial value during storage; and (4) a packaging process by which micro organisms are prevented from entering into the package during and after packaging process. Packing must also be sturdy and able to withstand extreme heat, high humidity, and brief periods of storage in the open. All wooden packaging and forest produce must be certified as being free from infestation by insects and fungi. Dutiable goods or restricted imports are not allowed to be packed in the same container as non-dutiable or unrestricted goods. Under Act of Food No.9/1996, any materials that is used as food package but whose impact on human health is not yet known must be examined for its safety by government authorities. Quality Assurance: Quality assurance is required of any foods or beverages to be traded. All food must therefore be laboratory tested before they are circulated. Testing must be performed by a Government accredited laboratory. Government regulation of the Republic of Indonesia Number 28/2004 about Food Safety, Quality, and Nutrition provides the following requirements for internationally traded foods: Any food exported out of Indonesian must meet food safety requirement. The responsible ministry of agriculture and fishery can establish the safety requirements. All foods exported from Indonesia for distribution must first be tested and inspected for safety, quality, labeling requirements and nutrition. Any person who exports food from Indonesia must be responsible for meeting the food safety, quality and nutrition requirements in the destination country. The responsible minister of agriculture and fishery can evaluate whether the products meet the requirements of the destination country. Registration: Any processed food produced domestically into Indonesia must be registered. A registration approval letter is issued by the appropriate government agency. Domestically produced foods must contain certificates describing the type of food, evaluation procedures, and the procedures for issuing the food production certificate. Processed foods that have a shelf life of less than seven days at room temperature and those imported into the country in small amounts are not subject to the registration requirements. B.3.5. Case Study: Fruit Juice Company About the Company PTG is one of the top producers of premium pineapples worldwide. The business was started three decades ago as a plantation in Sumatra and was later expanded into processing. 75,000 acres of prime agricultural land are devoted to the cultivation of the smooth cayenne variety of pineapple, chosen for its reliable yield of quality fruit. From planting to harvesting typically requires a cycle of 36 months. The harvest capacity per day is approximately 15 hectares, with a yield of 70 tones per hectare. PTG exports pineapple slices, chunks, tidbits, crushed pineapple, pineapple juice concentrate and tropical fruit salad to over 50 countries - 55% of which is exported to EU countries. Most of the pineapple concentrate exported to Europe is shipped to Rotterdam. The buyers in Europe process the concentrate by blending it with pineapple concentrate from other countries to optimize parameters such as sweetness and acidity. The pineapple concentrate is also blended with other kinds of fruit juice to produce a mixed fruit juice. Pineapples are a labor-intensive crop, continuously harvested throughout the year. It takes 18 months to grow a pineapple until it is ready to be harvested. After picking the first fruit, the same plant will grow a second fruit within 12 months. Each plant yields only one pineapple at a time and can be used to grow two fruits in total. After that, the plant is disposed of and replaced by a new

78 166 plant. It takes over 27,000 individual plants to cover a single acre and PTG grows cassava and guava amongst the pineapple plants. The total labor force of PTG is 12,000 people. Fruit Processing PTG mainly processes the harvested pineapples into canned fruit products and utilizes the remaining parts of the fruit to produce the pineapple concentrate. There are five main steps in PTG, which are selection, fruit processing, packaging, sterilization, labeling and shipping. Those are conducted in the three plants of PTG; plantation/farming, production plant and packaging plant. The fruit is washed and graded according to size. The pineapples are then machine peeled, producing cylinders of fruit. The core of these fruit cylinders will be removed and the remaining pieces are then selected, trimmed and cut. The fruit juice concentrate is produced from the inner part and the skin of the pineapple that remain after the canned fruit process. The pineapple concentrate is packaged in drums or intermediary bulk containers (1000L), labeled and shipped to Europe. The bulk container is returned from Europe for reuse. Quality Issues Figure B 3.3. Health Control Requirements on EU Agri-Food Imports VCS Certification by SGF Pineapple Farming Harvesting Fruit Processing incl. in-process inspection Packaging labelling Shipping Quality Control by European Laboratory Quality control is performed throughout the entire supply chain - from the development of improved seed varieties, through cultivation, harvesting, processing and packaging to final shipment of the finished product (see Figure B.3.3). It is essential that each pineapple is hand-picked at the peak of ripeness and transported to the processing facility without delay. At PTG, pineapples are processed immediately after harvesting and on average are never in a holding bin for more than three hours. The fruits are visually inspected prior to processing as the quality of the final product depends first of all on the quality of fruits. One major selection parameter is the ripeness of the fruit and color is used as the main indicator of ripeness for pineapples. The entire production process, from holding bin to sterilization, takes only 30 minutes, capturing the fruit at its prime to avoid deterioration of the product. After processing the quality parameters to be checked are the level of sweetness, acidity, color, viscosity, and organoleptic (taste and smell). The packaging material must be of food grade quality and the suppliers have to provide certification to that effect. PTG ensures the quality and safety of its products by controlling the entire supply chain including the farming stage. As the quality of its products depend on the quality of the harvested fruit and, to a high degree on the processing of the harvested fruit without delay, PTG incorporated the farming process into its own business. Most other fruit juice producers buy fruits from small local growers and process them often at remote facilities far away from the farms and therefore have no control over the process.. Market Access Requirements Traceability by Controlling All Steps To strengthen its position in the EU market, PTG became a member of the Schutzgemeinschaft der

79 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 167 Fruchtsaft- Industrie e.v. (SGF) 103 SGF is an industrial association that promotes industrial self-control for fruit juices in the European markets based on legal and industrial quality and safety standards. SGF is a registered association with headquarters in Germany and has partner organizations all over Europe. Buyers respect this association and accept their recommendations. SGF has implemented a voluntary control system (VCS) on quality assurance at manufacturers, bottlers and their suppliers from the tree to the bottle and back. VCS audits are conducted by IRMA (International Raw Material Assurance) at fruit processors and other supply chain members. The audits on product quality and safety of its members are performed once or twice a year depending on the situation. The auditors visit the plant including farming, production plant, storage facilities and, if required, also the shipment site. The auditors also take samples for testing. If the facility has been found to be in line with the stated requirements certification is provided - almost all European buyers recognize this certificate. Laboratory Testing PTG is conducting some laboratory testing such as pesticide residue, heavy metal, glucose, lactose and migration substances such as plasticizers. PTG has to send its test samples to Germany, USA or Singapore because laboratories in Indonesia are not able to test all the required parameters. In addition, certificates from Indonesian laboratories are generally not recognized by the buyers. Management System Certification PTG is certified for the implementation of Environmental Management System ISO 14001, Social Accountability System SA 8000 and Good Agricultural Process (GAP). Going Green Commitment PTG tries to improve its image in Europe by implementing green practices for more than the last 20 years. Greening the Soil: These green practices include greening the soil by planting elephant grass, which is cut down and then mulched into the soil to replenish it. PTG also sows other plants that enrich the soil with nitrogen, potassium and phosphate all essential nutrients for growing prime pineapples. Recycling Pineapple Waste: Pineapple cultivation yields plant waste of about 160 tons/hectare. Although this organic waste is an excellent organic fertilizer, the fiber from pineapple leaves and stems is tough and requires about six months to compost. PTG found an ideal solution to this problem and is now utilizing the plant waste as cattle feed. Plans are also underway to use methane produced by the cattle to power a biogas generator. Soil Conservation: Soil-erosion is a major issue in the management of large-scale plantations in tropical climates. In order to minimize erosion, PTG has been growing bamboo along the river and slope areas of the plantation since 1988 and today has the largest bamboo plantation in Indonesia with over 200 varieties of tropical bamboo. PTG also involves its suppliers in the Going Green Program by encouraging them to avoid the use of unnecessary plastic cling-wrapping of cartons and generally reducing the amount of packaging materials used, including the re-design of cartons that are 75% the size of conventional packages. B.4. Summary and Conclusions 103 See website of SGF:

80 168 In Europe processed foods are becoming an increasingly important part of consumer expenditures as people look for more convenient ways to store and prepare food. Consumers spend 12 percent of their income on food consumption and domestic production supplies about 90 percent of the EU market. The main sub-sectors are processed fruits and vegetables, cereal-based products, processed meats and dairy products. The European Union s fruit subsector is the most dependent on foreign supplies (about one-fourth of domestic utilization). For that reason, imports of fruits tend to predominate in EU imports of processed agri-foods. Processed meat imports into the European Union have grown by an average annual rate of 13 percent a year, outpacing all other food groups by a significant margin. Nevertheless, Indonesia does not supply any meat products to the European Union because its establishments have not been approved by the European Commission for access to the market. Indonesia s processed foods industry has steadily increased its contribution to the total output value of the Indonesian economy. Its impact on the growth and employment of other sectors has been large because of upstream and downstream linkages to primary sector and input activities and service-related industries. The commodity composition of exports is fairly evenly distributed among cereal, flour and starch preparations; vegetable and fruit preparations; and other types of food preparations. In contrast, the geographic composition of exports is highly concentrated in the ASEAN regional market. The share of exports destined for countries in Europe, the United States and Japan is small compared with the size and agri-food absorption of those markets. The European Union, for example is the world s largest market for these types of products, and Japan is the world s largest net importer of food products. Two-way trade between Indonesia and the European Union generally takes place in different types of products. Each trading partner is therefore specializing in the types of products in which it has a comparative advantage. The opening of agri-food trade between Indonesia and the European Union could therefore involve transitional adjustment costs. About 14 of the 53 agri-foods subsectors, however, traded between Indonesia and the European Union is similar. In those cases, the companies producing those particular products will have a small labor adjustment costs and little need for restructuring. The challenges to realizing Indonesia s export potential are concentrated in marketing difficulties and supply-side constraints of the existing agri-foods industry. Indonesia s production costs and exchange rate pass-through into export prices have been low, which has reflected favorably on the industry s international price competitiveness. Non-price factors have, however, undermined Indonesia s exports outside the ASEAN region to markets like that of the European Union. Among the most significant factors are (i) a lack of understanding of consumer tastes and preferences, and their distinction from that of Asian customers; (ii) lacking overseas networks with global supermarkets; (iii) difficulties in meeting health controls and packaging and labeling requirements; and (iv) poor infrastructure and high logistics costs. Specific findings on the supply side are as follows:

81 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 169 MSE and SME Development in Farming Good Agriculture Practices The process-oriented principle that food business operators throughout the food chain have the responsibility for ensuring that food placed on the market meets the required standard of food safety is currently difficult to achieve for Indonesian MSEs and SMEs. Therefore, larger fruit processors are reluctant to cooperate with smaller farmers and they either grow the fruit on their own farms or purchase fruit pulp from outside Indonesia. In order to achieve a significant increase in processed fruit or fruit juice originating from Indonesian farms for export it will be necessary to improve various aspects of fruit farming in Indonesia. The application of hygiene measures and GAP in all steps of primary production (farming, pre-processing, storage and transport) will be required. Development of Farmer Groups Forming farmer groups to address the challenge of implementing GAP in MSEs and SMEs appears much more feasible than by dealing with a large number of individual MSEs and SMEs. The Indonesian Ministry of Agriculture has established programs to promote the forming of farmer groups based on the Internal Control System (ICS) of IFOAM to support the application of GAP - including certification schemes. Development of SME Food Processors Good Manufacturing Practices in SMEs According to standard regulations the production of processed food including fruit juice has to be conducted in accordance with Good Manufacturing Practices (GMP). At present the vast majority of Indonesian food producers do not apply GMP and can therefore not ensure sufficient hygiene and product safety. Development of GMP Sector Strategy for SMEs Pilot projects, such as training for SMEs, as proposed above, are single events that provide assistance to a small number of beneficiaries. The training courses, and the experiences gained from such pilot projects, could be leveraged and developed to reach a far larger target group. Development of Food Laboratories BBIA and BPMBEI Balai Besar Industri Agro (BBIA) is conducting tests for the industry on food products. BBIA has a well equipped laboratory but still lacks the capability to analyze certain parameters (e.g. polyaromatic hydrocarbon, Vitamin A, D, E, B6, B12, Pentotenic acid, Nicotinamide, Folic Acid). The industry also demands testing with new, fast microbiological and chemical analytical methods that BBIA is currently not able to provide. Balai Pengujian Mutu Barang Export dan Impor (BPMBEI) has instruments and facilities for food testing. However, the competence of BPMBEI to perform analytical testing of food products in accordance with international standards needs to be assessed Proficiency Tests and Certified Reference Material In chemical testing certified reference materials (CRM) and proficiency tests (PT) are used as tools to achieve traceability. In Indonesia at present the utilization of CRM is very limited due to the fact that most CRM are imported and therefore comparatively expensive. Without CRM traceability to national and international reference standard cannot be achieved. Test results must be traceable and comparable to results provided by any other domestic or international test laboratory. It is standard international practice to conduct proficiency tests (PT) on selected parameters with a group of test laboratories that serve as indicator for traceability. The need to produce CRM in Indonesia and to conduct regular proficiency testing has already been identified in TSP I. The Research Centre for Chemistry (RCChem) in the Indonesian Institute of Science (LIPI) has

82 170 recently been appointed as the national metrology institute for chemical reference materials and proficiency tests in Indonesia and is supported by Physikalische Technische Bundesanstalt (PTB) of Germany. It has been decided that a number of laboratories will serve as producers of CRM and providers of PTs including BPOM and BBIA of MMAF. At present BPOM and BBIA do not have the capability to produce CRM and conduct PTs as required. BPOM should serve their local laboratories in the provinces while BBIA should serve the quality laboratories of the food processing industry We suggest that GOI and donors efforts to overcome existing constraints be oriented to the following types of activities (a) develop an industry strategy for extra-regional markets; (b) promote unique Indonesian products like tropical fruits and vegetable juices; (c) encourage cluster and networking development with supermarket chains; (d) MSE and SME Support and Development; and (e) develop Food laboratories capacity.

83 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 171 c. ELECTRONICS

84 172

85 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 173 C.0. Executive Summary The European Union is a net importer of electronic components. The market is by far the largest of all the focal sectors, with EU imports of US$280 billion. Despite the strong growth of the industry, demand is highly responsive to income changes, causing fairly large year-to-year growth variations. Requirements to access the EU electronics market mainly relate to (i) the International Electrotechnical Commission (IEC) regulations for safety; (ii) EC regulations on Electro Magnetic Compatibility (EMC); (iii) Restriction of Hazardous Substances (RoHS); and (iv) (WEEE) regulations for the environment. The European Union is Indonesia s largest export market for consumer electronic products. Important export markets are Germany, Netherlands, Belgium and the United Kingdom. There is considerable diversification of exports among other important markets like Poland, France, Italy, Spain and a number of other countries in the eastern part of Europe. However, Indonesia s exports of consumer electronics are heavily concentrated in a few basic types of products. Electronics is Indonesia s largest contributor to foreign exchange earnings from manufactured exports. It accounts for nearly one-fifth of total manufacturing exports, with consumer electronics leading industrial electronics by a two-to-one ratio. Development of the industry dates back to the 1970s when Japanese established joint ventures with Indonesian firms to access the domestic market in the period of import-substitution policies. When Indonesia adopted an export-oriented industrialization strategy in the 1980s, foreign electronics companies designated the country as one of their export bases, as a means of exploiting the low production costs in the country. In recent years the industry has experienced strong but uneven growth. The industry s output has begun to surge again as multinational electronics enterprises relocate from China in response to rising labor costs in that country. These large output variations in the Indonesian electronics industry have impacted on the growth and employment of other sectors. The effect has been particularly large because of upstream and downstream linkages to input activities and service-related industries. The main supply-side challenges for Indonesia s electronics industry are the international recognition of certification and testing. Electronic goods exported to the European Union must fulfill the CEmarket requirement showing that the manufacturer has taken all necessary measures to ensure that the product complies with the applicable safety legislation. Although many international and

86 174 national companies produce electronic products in Indonesia, only one Indonesian service provider (Sucofindo) is currently internationally recognized as a certification body with a supporting laboratory. The scope of products for which this institution has been accredited is also limited to 3 out of a total of 19 product groups. If Indonesia is to become internationally competitive, it must increase the number internationally recognized certification bodies. The only scheme for international recognition in the electronic industry is the Certification Bodies (CB) scheme. However, the scheme does not cover testing and certification in accordance with the EU directives for RoHS, WEEE and EMC. Indonesia is currently preparing a selected group of test laboratories and certification bodies for the CB scheme under the coordination of BSN. The successful application of the scheme would reduce the cost and time for certification.

87 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 175 C.1. Introduction C.1.1. Objective and Coverage The present annex on electronic equipment is one of five industry-specific annexes prepared for the study on Indonesia s Trade Access to the European Union: Opportunities and Challenges. It provides a self-contained analysis of the electronic equipment industry and its export potential in the EU market. It has three specific objectives. First, it seeks to identify Indonesia s export opportunities in the EU electronic equipment market, based on the industry s competitiveness and growth prospects. Secondly, it identifies challenges to the realization of Indonesia s export potential in terms of EU market entry requirements, export quality infrastructure (EQI), the conduciveness of trade policies and regulations, and support being provided to the industry. Finally, it points out a few general recommendations on actions that support the achievement of the industry s export potential to the EU market. This report consists of the following parts: Chapter C1 presents an overview of the electronic equipment industry in terms of its importance to the Indonesian economy and the pattern of its export development. It also covers the strengths, opportunities, weaknesses and threats (SWOT) facing the industry s development, especially as it relates to Indonesia s exports to the EU market. Chapter C2 analyzes the European Union s market for electronic equipment and Indonesia s competitiveness in that market. It begins by examining the market in the European Union and assessing its growth prospects. It then examines the major factors determining Indonesia s competitiveness relative to other developing country exporters to the EU market. The chapter ends with an analysis of the relative importance of price and non-price factors in explaining Indonesia s changing market shares in the EU market, and how remedial actions addressing non-price factors could impact on Indonesia s export prospects. Chapter C3 covers EU market access requirements and existing conditions in the Indonesian electronic equipment industry. It examines internal and external constraints along the value chain, especially for small and medium size enterprises (SMEs), the existing EQI system in the industry and support services being offered to enterprises, and trade policies and regulations affecting the industry. Chapter C4 presents a summary of the findings on the Indonesian electronic equipment industry, and it draws on this information to recommend specific actions needed to fully realize the country s export potential in the EU market. C.1.2. Importance of the Industry Industry Coverage The electronics industry produces a wide range of products, about half of which are for mass market consumption like mobile phones, televisions and personal computers (PCs); the other half are embedded in manufacturing processes, information technology (IT), and transportation equipment. 104 Our focus is on consumer electronics, which are the products of greatest importance to Indonesia, in terms of both exports revenue and domestic production of component for multinational enterprises. 105 Market data for these products cover wholesale, retail and international trade Throughout this report,, the term industry and sub-sector are used interchangeably and both refer to a subset of activities of the sector to which the industry belongs. 105 The report covers consumer electronics under the Standard International Trade Classification (SITC) codes 775 (household-type electrical and non-electrical equipment; 761 (monitors and projectors); 762 (reception apparatus for radio-broadcasting); and 763 (sound recording or reproducing apparatus). The HS codes for consumer electronics are 8418 (refrigerators); 8422 (dishwashers); 8450 (washing machines); 8509 (electro-mechanical domestic appliances); 8519 (sound recording or reproducing apparatus); 8528 (television receivers); 8528 (reception apparatus for radio-broadcasting); and 8540 (television components). 106 Wholesale and retail trade is based on the European Union s Classification of Economic Activities in the European Community (NACE), which has correspondence to the International Standard Industrial Classification of all Economic Activities (ISIC), available at unstats.un.org/unsd/cr/registry/regot.asp. The NACE (revision 1.1) code for wholesale trade in consumer electronics is 5143, and for retail trade it corresponds to 5245.

88 176 Importance of Subcontracting The electronics value chain is highly dependent on Electronic Manufacturing Services (EMS), which provide components to Original Equipment Manufacturers (OEM), that is, the brand name companies. Since the early 1990s large consumer electronics manufacturers have sold off portions of their manufacturing activities in an effort to outsource to lower cost suppliers. 107 These subcontracting arrangements have been made possible by clearly distinct stages in the electronics value chain, and the global standardization of manufacturing processes. 108 OEMs are not tied to a particular location for sourcing electronics components. 109 Instead, global production networks farm out production to diverse geographical locations to take advantage of lower costs and thereby obtain higher margins and profits. Figure C 1.1. Value Added of Electronics Industry 5.0% Share of Total Value Added Food Industry Growth Rate 4.0% GDP Growth Rate 3.0% 2.0% 1.0% 0.0% Source: Derived from data from Badan Pusat Statistic. Available: 75% 50% 25% 0% -25% -50% Importance to Indonesia Electronics is the largest contributor to Indonesia s foreign exchange earnings from manufactured exports. It accounts for nearly one-fifth of total manufacturing exports, with consumer electronics leading industrial electronics by a two-to-one ratio. Within the Indonesian economy, the industry contributes nearly 6 percent to gross domestic product (GDP), a ratio that remained between 2000 and There are currently 235 electronics companies operating in Indonesia, most of which produce basic rather than cutting edge technologybased products. Some of the well-known OEMs with production bases in the country are Panasonic, Sanyo, Epson, Sharp Samsung and LG. Panasonic s latest relocation in 2010 was a lithium coin battery factor from Japan, and it plans Figure C 1.2. Indonesia s Major Exports of Consumer Electronic Products, 2009 Note: Based on Standard International Trade Classification. Source: UN, COMTRADE database. to relocate more factories to Indonesia in the near future.110 Both the Government and the private sector would like to increase the domestic content of electronics products from the OEMs. But major obstacles remain from poor infrastructure, particularly road, electricity and logistics. Development of the industry dates back to the 1970s when Japanese companies established joint ventures with Indonesian firms to access the domestic market in the period of import-substitution policies. When Indonesia adopted an export-oriented industrialization strategy in the 1980s, foreign electronics companies designated the country as one of their export bases, as a means of exploiting the low production costs in the country. Subcontracting arrangements under these circumstances have grown as countries like China increasingly adopt the subcontracting mechanism with Indonesian 107 The terms outsourcing and subcontracting are used interchangeably. Offshore activities refer to the international dimension of contract manufacturing. Technically, the terms slicing up the value chain and production fragmentation refer to the phase preceding subcontracting. Only after the production process has been separated into distinct activities can they be outsourced or subcontracted. 108 See Estudes Conseil, World Electronics Industries April Available: wei_current.pdf. 109 See UNCTAD, Strengthening participation of developing countries in dynamic and new sectors of world trade: Trends, issues and policies in the electronics sector. Geneva, September Available: The Jakarta Post, Indonesia on track to become electronics production base. 28 August 2010.

89 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 177 Figure C 1.3. Distribution of Indonesian Consumer Electronics Exports by Major Market in 2009 Source: United Nations, COMTRADE datase. Figure C 1.4. Top Third Country Suppliers to EU Consumer Electronics Market in 2009 firms to produce competitive low cost products for both the domestic and export markets. In recent years the industry has experienced strong but uneven growth. Annual growth rates ranged from a low of -29 percent in 2009 to a high of 54 percent in More recently, the industry s output has begun to surge again as multinational electronics enterprises relocate from China in response to rising labor costs in that country. These large output variations in the Indonesian electronics industry have impacted on the growth and employment of other sectors. The effect has been particularly large because of upstream and downstream linkages to input activities and service-related industries. The multiplier effect occurs because the expansion of these other sectors generates revenue, which in turn impacts on the demand for electronics products. Note: Based on Standard International Trade Classification. Source: Economic Comission, Eurostat database. Types of Exports Indonesia s exports of consumer electronics are heavily concentrated in a few basic types of products. About 70 percent of exports are in the form of sound-recording and video-recording apparatus. Television and radios account for 12 percent of exports each. There is a small amount of refrigerator (3 percent) and heating units (2 percent) exported. Other minor exports are electric shavers and dishwashers. Major Export Markets The European Union is Indonesia s largest export market for consumer electronic products (Figure C1.3). Important export markets are Germany, Netherlands, Belgium and the United Kingdom. There is considerable diversification of exports among other important markets like Poland, France, Italy, Spain and a number of other countries in the eastern part of Europe. The United States is the second largest export market followed by that of the ASEAN member countries. Within the Asian region, the most important markets are the Philippines, Malaysia, Thailand, Vietnam, and Singapore for both the domestic market and transshipments to other markets. Major Competitors in EU Market The EU market for consumer electronics is dominated by China s products (Figure C1.4). Almost 60 percent of all non-eu products imports originate in China. Turkey, with 13 percent of the market, is the only other country with a significantly large market share. Although Indonesia is the seventh largest non-eu supplier of consumer electronics to the market its 2 percent market share is small.

90 178 C.1.3 SWOT Analysis Box C1.1 summarizes the strengths, weaknesses, opportunities and threats (SWOT) of the industry. The focus of the analysis is areas where there is a need for change to ensure that Indonesia realizes its export opportunities in the EU electronic equipment market. Key issues for the industry are as follows: The proposed CB scheme competence isnot comprehensive for all products. Lack of skilled workers for the electronics industry. Strong competition in EU market from larger supplies like China, Korea, Vietnam and Thailand. Concentration in electronics products with low to mid-level technologies. Box C 1.1. Strengths, Weaknesses, Opportunities and Threats (SWOT) of Indonesian Electronics Industry Supply Chain Structure and Functioning EU Market MSEs and SMEs Institutional Framework Good functioning supply chains governed by international companies Competitive cost structure of Indonesian firms relative to EU producers. Strong and growing EU consumer demand for electronic products in all sectors. Relatively low market access requirements for third country products. SMEs are flexible and can adjust production quickly to various specifications Several laboratories available and increasing capabilities Strengths 70% of parts and components are imported to ensure compliance with regulations. Lack of skilled workers in electronic industry Indonesia is not competitive relative to large EU suppliers like China, Korea, Vietnam and Thailand. Exports to EU market are largely medium-tech products lacking sophistication Indonesia lacks technological sophistication and highly skilled labor force SMEs have to comply with all EU requirements but are not familiar with them SMEs do not have staff that understands EU directives Proposed CB scheme competence not comprehensive for all products Unfavorable labor and infrastructure conditions in Batam EPZ. Weaknesses Opportunities Information for suppliers on requirements could improve capabilities Local producers could improve market share with about EU require-ments for electronics and packaging. Development of export strategy for EU market, targeting wider market and more high-tech products SMEs could increase their market share of supplied components for export products or even export their components if they were able to provide compliant products and the required documentation National laboratories can be developed to international recognition in CB scheme Threats Competitiveness of Indonesia s producers may deteriorate if prices of imported components increase and domestic sourcing is unavailable. Footloose industry could readily exit if political, economic and social conditions deteriorate. Competitiveness may deteriorate if market standard cannot be met Possible failure to upgrade national laboratories to level of international standards.

91 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 179 C.2. Indonesia s Export Competitiveness in the EU Market C.2.1. EU Market Development and Prospects The European Union is a net importer of electronic components. The market is by far the largest of all the focal sectors covered by this study. Imports in 2009 were US$280 billion. However, demand is highly responsive to income changes. As a result, year-to-year growth has varied widely, from a surge of 25 percent in the value of imports in 2004 to a 21 percent contraction in 2009 (Figure C2.1). The largest EU importers are Germany, France, United Kingdom and Italy, which together account for one-half of all electronics imports into the European Union. Figure C 2.1. EU Consumer Electronics Imports, (Billion US dollars and percentage) Bill $ The top EU electronic product imports Source: European Commission, Eurostat datase. are fairly evenly distributed between mass market applications in home appliances, data processing uses, audio and video, and in industry applications for medical, automobile, defense, and telecommunications (Table C2.1). Together these 20 imports represent 85 percent of all electronics imports. Indonesia accounts for 0.9 percent of these imports, of which it primarily supplies video recording equipment (25% of total), radio and television transmitters (18%), and radio and television parts (11%). Table C 2.1. Top 20 EU Electronic Product Imports, Total and from Indonesia in 2009 (billion US$ and percent) HS Product Total Indonesia Billion US$ % of Total Billion US$ % of Total 8517 Electric apparatus for line telephony % % 8541 Diodes, transistors % % 8542 Electronic integrated circuits % % 8529 Parts for radio & tv % % 8528 Television receivers & monitors % % 8525 Radio and TV transmitters % % 8544 Insulated wire, optical fibre cable % % 8504 Electric transformers % % 8536 Electrical switches, connectors % % 8516 Equipment with heating element % % 8523 Recording media % % 8501 Electric motors and generators % % 8520 Electronic recording equipment % - 0.0% 8534 Electronic printed circuits % % 8518 Audio-electronic equipment % % 8531 Electric sound or visual equipment % % 8543 Electrical machinery nes % % 8507 Electric accumulators % % 8526 Radar, radio navigation apparatus % % 8521 Video recording apparatus % % Source: United Nations, COMTRADE database.

92 180 There are extensive opportunities for EQI support directed at moving Indonesia from low to mediumtech products with favorable market prospects in the new EU member states of Eastern Europe to high-tech components in the high-income Western European economies. Trade compatibility between Indonesia s existing products exports and EU imports is the highest of any sector, although there are relatively fewer types of products currently exported among Indonesian exporters that match the European Union s top 1000 imported products. However, this situation can be interpreted not so much as a negative factor, but as pointing the way towards downstream opportunities in the sector. The EU demand for consumer electronics imports has been strong, particularly in its response to changes in consumer incomes. Our estimates show that a one percent increase in real GDP of the EU market as a whole has produced a 2.4 percent expansion in consumer electronics imports. Figure C2.2 provides a visual representation of the forecast of total EU consumer electronics imports through The forecasts are based on assumptions about real GDP growth, consumer electronics prices and exchange rates taken from the International Monetary Fund s biannual projections. 111 They forecast GDP to grow by 1 percent in real terms in 2010 and by another 1.3 percent in After 2011 a moderate 2 percent annual real GDP growth is assumed. We assume unchanged constant euro prices for the products and an average exchange rate of US$1.3 per euro over the medium term. Based on these projections for economic activity within the European Union, demand for -electronics imports is projected to grow by an average annual rate of 2 percent in , followed by a more robust growth of 4-5 percent thereafter. C.2.2. Indonesia s Export Competitiveness Indonesia s competitiveness in the EU electronics market, like in other foreign markets, is largely determined by four interrelated conditions: (i) export prices relative to those of competing suppliers to the market; (ii) the magnitude and type of accessible demand; (iii) accessibility and reliability of supporting industries; and (iv) possibility of fragmentation or relocation of some or all parts of production-process activities and footloose foreign investments. 112 Figure C 2.2. EU Consumer Electronics Imports, actual and forecast Actual Forecast Export Prices: Foreign demand for Indonesia s electronic equipment exports is determined by the rupiah-denominated price of exports. From the point of view of European buyers, that price is denominated in euros. The price differential between Indonesia s exports and those of other Source: Projections by the Study Team based on econometric estimates and assumptions about economic activity from IMF, World Economic Outlook database. competitors to the EU market therefore depends on the product price in each supplying country and the cross exchange rate between the rupiah and the euro, adjusted for inflation in each country. The demand for electronic equipment exports of Indonesia is accordingly determined by both the real cross-rate of Indonesia s domestic currency relative to that of the European Union, and the foreign rupiah-denominated export price. 113 Macroeconomic conditions determine the real cross-rate, while industry-specific conditions in Indonesia determine the rupiah-denominated price of electronic equipment. 111 See International Monetary Fund, World Economic Outlook Update. July Available: weo/2010/update/02/index.htm. 112 These conditions are often referred to as the Competitiveness Diamond developed by Michael Porter, Competitive Advantage of Nations. Free Press, The real bilateral exchange rate takes the relative price of tradable and non-tradable products as an indicator of a country s competitiveness level in the foreign trade. The rationale behind this definition is that the cost differential between trading countries are closely related with the relative price structures in their economies. Mathematically, the real exchange rate, r, is defined as r = Pt/Pn = ep*/pn, where Pt and Pn represent the price of tradable and non-tradable products, e is the nominal exchange rate, and P* is the international price of tradables.

93 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 181 Table C 2.2. Export c.i.f. Price of Consumer Electronics of Top Suppliers to EU Market, Russia 327 Korea 372 China 403 India 404 Brazil 439 Thailand 464 Malaysia 612 Indonesia 759 Canada 1,325 U.S.A 1,404 Japan 2,490 Source: derived from data in Eurostat database. Note: Average of all types of exports. markets. These price variations could reflect differences in the product composition of the two groups, as well as quality differences. The more important measure of competitiveness is the impact that those prices have had on the demand for Indonesia s exports, that is, whether changes in the price of Indonesia s exports have affected the EU demand for Indonesian exports relative to that of competing suppliers to the market. This issue is examined in the next section of this chapter. For the first of these determinants, Figure C2.3 shows the relation between changes in the real cross-rate in Indonesia and other major suppliers to the EU market and changes in their shares of the consumer electronics market. Despite Indonesia s strong currency and China s large penetration into the EU electronics market, exporters were able to maintain their share of the market. The United States suffered the largest losses in market shares, notwithstanding the declining value of the US dollar. The industry-specific conditions affecting the rupiah-denominated price of electronic equipment are largely associated with labor and infrastructure-related costs. The cost structure of the consumer electronics industry is reflected in the nominal unit price of product exports in the industry s relatively competitive global market. 114 Table C2.2 shows the average export price of Indonesia and other foreign suppliers to the EU Figure C 2.3. Changes in Real Cross-Rates with Euro and Share of EU Electronics Market, Industry Networking: The development of the global electronics industry is largely driven by technology diffusion and capability development Source: Calculated from IMF, WEO database, and EU, Eurostats. of countries like Indonesia within global production networks. In these networks, OEMs allocate, or outsource, production, marketing and distribution activities in different countries in such a way as to benefit from input and production costs, technological activities, marketing, logistic, and other differences. The networks therefore operated through a the fragmentation of activities among different countries. 115 This phenomenon can, of course, only occur in those instances where various phases of the production process are physically separable. While this fragmentation has had a dramatic effect on Indonesia s production, employment, exports and technological activities, the system is effectively footloose, meaning that it is independent of resources other than capital, and skilled and unskilled labor. Changes in entry or exit of activities in a country can therefore take place quickly, depending on a country s regulatory and fiscal (tax) environment, and relative factor costs of EMS located in other countries. Demand Conditions: Specialization of countries in various phases of the production and distribution process leads to what is called two-way trade for a country like Indonesia. Imports of component parts may be assembled and exported to foreign markets, thereby appearing in aggregated trade 114 In a competitive market, the firm or industry as a whole will select an output level that equates its margina cost with its export price. 115 The phenomenon of fragmentation is also termed segmentation, production sharing, integrated production, outward processing, and vertical specialization.

94 182 statistics as though Indonesia is importing and exporting the same types of products. For example, the components of television receivers have the same 2-digit trade classification as the finished television products. It therefore appears as though a country like Indonesia is trading the same product, when in fact the country is importing parts and assembling them into the final product before shipping it to foreign markets. Conditions for Conducting Business: Location of production activities depend on political, social and economic stability, good infrastructure, efficient export processing zones (EPZs), access to markets and inputs, and efficient regulatory procedures. The higher the technology involved in the electronics product, the higher the skill level that is needed of workers, as well as technical and managerial capabilities. More mature industries in Indonesia contain a greater proportion of local content than emerging industries, for which there is need of efficient local suppliers, service providers and institutions for training, quality testing, certification, and other EQI requirements of the industry. These EQI requirements explain why OEMs locate in medium-wage economies like Indonesia rather than low wage ones like Laos, Myanmar, or countries in Africa, where skills, capabilities and infrastructure are lacking and regulatory procedures are complex. At the same time, the global electronics industry remains highly mobile and reloction of industries from one country to another occur regularly. In Indonesia, for example, Sony Electronics Indonesia relocated to Thailand and Malaysia in 2003 because of more favorable investment environments in those countries. In another instance, Fairchild and NSC relocated their semiconductor production network from Indonesia after the Government rejected their efforts to improve production efficiency by scaling down their labor force. 116 Box B 2.1. Competitive Analysis of Indonesian Consumer Electronics Industry Pricing Conditions Strengths Stable real cross-rate with euro. Low-cost manufacturing for mass products. Relatively skilled labor. Weaknesses Real effective devaluations by competing suppliers to EU market. Low-cost EMS in other countries. Poor infrastructure and high logistics costs. Demand Conditions Industry Networking Conditions for Conducting Business Fragmentation of consumer electronics industry. Increasing use of EU-consistent environmental standards. Large market for medium to low end consumer electronics in eastern EU countries. Growing proportion of local content for consumer electronics. Strong supporting relationships and subcontracting in industrial complexes Strong competitive environment Knowledge about requirements in environmental legislation. Adequate disseminate information about business regulations. Dominance of medium to large enterprise companies. Difficult for SMEs to provide EMS activities. Limitations of institutions providing training, quality testing and certification. Lack of technically-specialized skilled workers. Dependence on multinationals. SME lack networking with OEMs. Weak linkages to trucking, logistics, warehousing, software, banking and finance. Price-based competition for similar products, especially China. Footloose industry could easily exit country if political, economic and social conditions change relative to other countries with EMS activities. Source: Based on Competitive Diamond analysis (see Michael Porter, Competitive Advantage of Nations. Free Press, 1998). 116 Anne Booth, The Indonesian Economy in the Nineteenth and Twentieth Centuries: A History of Missed Opportunities. Basingstoke: Macmillan and New York: St. Martin's Press, 1998.

95 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 183 C.2.3 Opportunities to Regain Market Shares Indonesia s share of the EU consumer electronics market has improved modestly in recent years, although considerable scope for improvement remains. Our estimates of the export relationship for the Indonesian consumer electronics industry suggest that there has been a reduction in the earlier negative effects from non-price factors associated with supply impediments like EQI limitations (Figure C2.4). 117 The improvement in supply conditions is likely to be associated with the increased influence of multinational enterprises in the country, and improved EQI conditions in the components industry. The extent of possible outsourcing will depend on four factors: (i) the technical divisibility of production processes, mentioned in the previous section; (ii) the factor intensity of the production process and the extent to which Indonesia has a cost-advantage in those factors; (iii) the technological complexity of each process and whether Indonesian EMS are capable of providing that technology; (iv) the value to weight ratio of the product, which for consumer electronics tends to be high; and (v) the regulatory and fiscal (tax) policies and the Government s industrial strategy. 118 The last factor is particularly important since large shifts in government policies and regulations have affected investment interests of both local and multinational firms. In addition to China, Vietnam is seen as an attractive location because of the government s business friendly attitude. One study on the Indonesian consumer electronics industry has found that firms considered Vietnam as a favorable prospective destination for fragmentation because of its relatively strong investment incentives, infrastructure, and access to market. 119 The Indonesian electronics sector therefore faces stiff competition from possible EMS activities in other countries, a situation that underscores the need to establish a favorable investment climate supported by a strong EQI system. In the past, Indonesia encourage local electronics consumption through import-subsitution policies aimed at local contents requirements. However, the requirements were abandoned in the mid-1980s as part of a series of deregulation measures introduced at that time. At present, the Government offers some incentives to electronics consumption by abolishing the luxury sales tax for electronics goods. However, the investment climate remains fairly neutral compared with the more positive investment incentives offered by countries like Malaysia and Thailand. Figure C 2.4. Price and Non-Price Factors Impacting on Indonesia s Shares of EU Consumer Electronics Market, % 2% 1% 0% -1% -2% -3% Source: Derived from Study team estimates Relative export price effect Real cross-rate effect Non-price effect 2009 Million Euro Figure C 2.5. Actual and Potential Export Earnings from Remedial Supply-Side Measures in Consumer Electronics Industry, Percent Revenue Gain Additional Export Revenue from Supply- Side Measures Actual Revenue Source: Estimated from Study team calculations 50% 0% -50% 117 Non-price factors (including but not exclusively EQI) are equal to the changes in exports not explained by income and price changes. That's the way it was calculated and that's normall the way that the intercept is interpreted. However, in our case, we broke down the non-price factors further by including a trend variable to capture secular changes that could or could not be associated wtih EQI. Because of the attribution uncertainty, it was decided not to report the secular (trending) estimates. 118 For details, see Sanjaya Lall, Manuel Albaladejo and Jinkang Zhang, Mapping Fragmentation: Electronics and Automobiles in East Asia and Latin America. QEH Working Paper Series QEHWPS115. Working Paper Number 115, See Siwage Dharma Negara, Fragmentation of Electronics and Textile Industries from Indonesia to CLMV Countries. IDE-JETRO, Japan. Available:

96 184 In recent years, export price movements have eroded the industry s position in the EU market, largely because of China s more competitive prices in that market. The exchange rate pass-through on the demand for Indonesia s exports produced mixed results, with market share gains in half of the years and losses in the other. To the extent that Indonesia could have overcome its supply impediments on exports and maintained its share of the EU consumer electronics market that it reached at the beginning of the decade, foreign exchange revenue from the industry would have been nearly 10 percent higher in 2009 than was actually achieved (Figure C2.5). Without those EQI constraints and assuming that all other price and non-price factors were the same as other suppliers, Indonesia s exports would increase by the same proportion as those of EU imports for consumer electronics, that is, the same as our forecast of around 4.5 percent annual growth of EU consumer electronics imports from third countries.

97 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 185 C.3. Challenges for Realizing Indonesia s Export Potential C.3.1 EU Market Access The key elements of the regulatory environment for the electronics industry are as follows: Requirements in the electronics sector concern environmental and health-related problems associated with growing volumes of post-consumer waste from electrical and electronic equipment (EEE). These issues have resulted in significant environmental policy initiatives and in 2003 the Economic Commission adopted two directives to address these concerns. The first is the Directive on Waste Electrical and Electronic Equipment (WEEE); and the second is the Directive on the Restriction of the Use of Certain Hazardous Substances in Electrical and Electronic Equipment (RoHS). The WEEE and RoHS Directives aim to substantially reduce the amount of electrical and electronic equipment entering incinerators and landfills and to eliminate the hazardous substances these products contain. The European Community does not impose the requirements of its directives directly on companies or consumers, but rather on its member states. As a consequence, it is the responsibility of the member states to implement policies to ensure compliance with the directives. They set a minimum standard and member states can choose to implement more restrictive policies. If member states fail to implement the minimum standards, the Commission can impose penalties on them. For exporting countries like Indonesia, it is more effective and cost-efficient to combine adjustment to external requirements for exported EEE with adjustment to domestic needs for sound national collection and management of EEE waste, a process that extends further than mere recycling. Box C 3.1. EU Market Access for Electronics Tariffs MFN GSP Average Maximum Minimum Product-Specific Requirements: Essential requirements. Conformity assessment. CE marking. Market surveillance Marketing requirements Rules of origin Sources: Tariffs provided by European Commission, Trade Directorate; requirements from EC Helpdesk. For GSP status, the material used in the manufacturing process cannot exceed 30 percent of the ex-works price of the product for the non-originating materials under the rules of origin. For Indonesian exporters shipping electronics products to the EU markets, the following are the specific market access requirements: Tariffs: The ad valorem tariff average of 2.8, ranging from 0 to 14 percent; the average tariff rate ranges from 0 to 7 percent and averages 1.7 percent. 1. Specific requirements on technical standards covering (a) essential requirements; (b) conformity assessment; (c) CE marking; (d) market surveillance; (e) marketing requirements; and (f) rules of origin. (a) Essential requirements: The essential safety requirements protect against risks arising from the use of the electrical equipment and risks which may be caused by external influences on the electrical equipment, including not just electrical ones but also mechanical, chemical and any other risk (noise, vibrations and others). 121 Harmonized standards: The technical specifications to meet the essential requirements are not described in the Directive. However, products are presumed to conform to 120 The following information draws on material available at the European Commission s Helpdesk for developing countries. Available: See

98 186 the essential safety requirements where they have been manufactured in accordance with: The harmonized standards drawn up by the European Committee for Electrotechnical Standardization (CENELEC) on the basis of the essential requirements set in the Directive; 122 In the absence of harmonized standards, the international rules issued by the International Electrotechnical Commission (IEC) are applicable. 123 The manufacturer may construct the product without applying harmonized or international standards but, in such a case, the product will not benefit from presumption of conformity and the manufacturer must include in the technical documentation a description of the solutions adopted to meet the essential safety requirements. (b) Conformity assessment: Before a product is placed on the EU market, the manufacturer must ensure and declare conformity of the electrical equipment with the provisions of the Directive in order to affix the CE marking. The manufacturer must affix the CE marking to each product and draw up a written declaration of conformity. 124 The manufacturer must compile the technical documentation (covering the design, manufacture and operation of the product) which enables to assess whether the electrical equipment complies with the requirements of the Directive. This documentation, together with a copy of the declaration of conformity, must be kept at the disposal of the competent national authorities for inspection purposes for a period of 10 years from the date of manufacture of the product. The contents of this documentation are detailed in Annex IV to the Directive 125 Where neither the manufacturer nor his authorized representative are established within the EU, the importer or the person first placing the product on the EU market is responsible for making available the technical documentation. (c) CE Marking: All electrical equipment marketed in the EU must be provided with a CE conformity marking, as depicted in Annex III to the Directive, which symbolizes the conformity of the equipment with the essential requirements. CE stands for Conformité Européenne, a French term that can be literally translated into English as European Conformity. It must be affixed on the product, on the packaging, the instructions for use or the guarantee in a visible, easily legible and indelible way before being placed on the market. 126 The Directive provides for procedures and sanctions established by the Member States for cases where the CE mark has been affixed unduly. European directives under CE marking are applicable for the European Union. Several technical regulations are compatible with international technical regulations such as the Low Voltage (73/23/EEC), which is based on internationally IEC standards. These standards are equivalent to standards used in other countries like the UL standards of Underwriters Laboratories, which are used in the United States. (d) Market surveillance: Each Member State establishes authorities to be responsible for checking that products placed on the market meet the requirements of the applicable directives and that the affixing and use of the CE marking is correct. Market surveillance can be done by testing products, checking administrative and technical documentation and visiting factories. Products complying with the Directive enjoy free circulation within the EU. However, in case a Member State finds that the CE Marking has been affixed unduly, the manufacturer or his authorized representative established within the EU must make the product conform to the essential safety requirements. Otherwise, the Member State 122 For details, see See See See

99 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 187 must restrict or forbid the placing on the market of this product, or even remove it from the market. (e) Marketing requirements for electrical and electronic equipments: In order to prevent the production and disposal of hazardous waste and to promote reuse, recycling and other forms of recovery of such waste, the placing on the European Union market of electrical and electronic equipment (EEE) is subject to the following requirements: Restriction of hazardous substances (RoHS): Electrical and electronic equipment as well as electric light bulbs and luminaires in households placed on the market after 1 July 2006 must not contain lead, mercury, cadmium, hexavalent chromium, polybrominated biphenyls (PBB) or polybrominated diphenyl ethers (PBDE) in amounts exceeding the set of maximum concentration values: (i) 0.01 % by weight in homogeneous materials for cadmium; and (ii) 0.1 % by weight in homogeneous materials for all other substances. Waste electrical and electronic equipment (WEEE): Directive 2002/96/EC of the European Parliament and of the Council establishes the manufacturers and importers (termed producers under the Directive) responsibility regarding WEEE management, specifically referred to the following aspects: (f) º º The design and production of EEE must facilitate reuse and recycling of WEEE º º EEE placed on the market must be appropriately marked with the symbol shown in Annex IV to Directive 2002/96/EC in order to facilitate its separate collection. 127 Where necessary, the symbol may be printed on the packaging, on the instructions for use and on the warranty. º º Importers must set up individual or collective systems for the collection, treatment and recovery of WEEE and meet the recycling targets established by the Directive. º º When placing EEE on the market, importers must provide for a guarantee for the financing of the collection, treatment, recovery and sound disposal of waste arising from their products. º º Importers must provide information for users and treatment facilities on the reuse and treatment for new EEE within one year of placing it onto the market. º º Importers are required to register with the competent authority appointed by the Member State and have data reporting obligations relating to the amount and categories of EEE put on the market and relevant levels of recycling achieved. Rules of Origin Applicable to GSP Status: In electronics, the material used in the manufacturing process should not exceed 30 percent of the ex-works price of the product for the non-originating materials. C.3.2 Value Chain Analysis Large multinational companies dominate the Indonesian electric and electronic equipment sector. Approximately 70 percent of all components are imported and the main value addition is achieved by assembling in Indonesia. Packaging and certain components and parts such as cables and plastic boards are supplied by Indonesian manufactures. The value chain of the sector relies on a network of dependable parts and components suppliers, each expected to ensure the compliance of all supplied products and material. Relevant EQI issues are the international IEC regulations for safety, 128 the European EMC regulations on Electro Magnetic 127 See See

100 188 Compatibility 129, RoHS 130 and WEEE 131 environmental regulations. All electric and electronic equipment designed for cooling or freezing, which use refrigerant gas (ammoniac and fluorinated hydrocarbon), must comply with the Montreal Protocol Regulation CE 2037/2000. At present Indonesian producers of parts and components for the electric and electronic equipment industry face difficulties in fulfilling those requirements and in providing the required records and compliance certificates. These companies are usually only able to produce simple components like plastic parts. The more sophisticated components like electronic components or mechanical components need a higher level of competence in research and production, which remains limited in Indonesia. These limitations are also related to the lack of qualified workers in the electronic industry in Indonesia. Electronic products provided by local producers (OEM) often have difficulties in fulfilling EC safety and environmental regulations. Thus, local laboratories providing testing within the CB scheme would support these companies in achieving the quality required by international buyers. In summary, the relevant quality parameters in electric and electronic equipment production are (i) design in compliance with technical specifications, (ii) compliance of technical and environmental requirements for all components, (iii) final inspection of product, (iv) product packaging and (v) product approval and marking. The following section describes how and where companies must deal with these requirements in the production process. C Electronics Production Process and EQI The following chart presents the value chain including the testing and inspection elements of the export quality infrastructure. Figure C3.1 illustrates the general process in electric and electronic equipment production and the relevant key quality checkpoints. Step 1 Design Process Description: The design process aims to create a new product that fulfills customer demands and is in compliance with applicable regulations. The design phase is of utmost importance to ensure that all applicable requirements on safety, environmental aspects, packaging and labeling are taken into account as well as the availability of required components and the cost involved in production. EQI Issues: During the design phase four major issues related to quality, safety and environment have to be considered: IEC standard requirements regarding safety, RoHS and WEEE requirements on environmental issues and EMC for electromagnetic compatibility. While designers are usually quite familiar with safety and EMC aspects they are recently forced to take environmental issues more into consideration. To be in compliance with the EU RoHS directive the design of electronic equipment using hazardous substances should be avoided. To be in line with the EU WEEE directive any design should also take into account the dismantling and recovery of components and materials for potential re-use and recycling. Through specific design features or manufacturing processes, producers should not prevent waste electrical and electronic equipment from being reused. These standards and regulations are discussed in detail below. Conclusions: The design phase is of utmost importance to ensure that all applicable requirements on safety (IEC standards), electromagnetic compatibility (EMC), environmental aspects (RoHS and WEEE) and requirements on packaging and labeling may be fulfilled. Step 2 Purchasing Process Description: During the purchasing process all components and materials as well as packaging material required for the assembly of the product are purchased. 129 For information see directive 2004/108/EC on the approximation of the laws of the Member States relating to the electromagnetic compatibility 130 For more information see directive 2002/95/EC on the restriction of the use of certain hazardous substances in electrical and electronic equipment 131 For more information see directive 2002/96/EC on waste electrical and electronic equipment (WEEE)

101 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 189 Figure C 3.1. Electronics Production Process and Associated Quality Checkpoints RoHS Design RoHS Electronical Parts Packaging Material Plastic Material RoHS IEC WEEE Laboratories RoHS Purchasing and Incoming Inspection Supplier Audits Material Information Technical Specification Assembling Packaging Requirements Final Inspection Export CE Mark for IEC, RoHS, EMC Requirements Certification Border Inspection Result Test RAPEX Market Surveillance CE Warehouse Outlets EQI Issues: In the purchasing phase, in order to be in compliance with RoHS, it has to be ensured that the raw material and components purchased fulfill IEC safety requirements and do not contain hazardous substances. To achieve this suppliers that can provide test results and Material Safety Data Sheets (MSDS) on the material and components must be selected. Supplier audits are conducted to allow producers to verify that the supplier undertakes the correct quality management and assurance measures. In some cases, producers include clauses in their contracts and agreements with suppliers to ensure that they control adherence to standards. Suppliers of packaging material are also expected to provide all the required information on packaging material. The aim is to control the entire supply chain to ensure that the specifications of all materials and components are met. In cases where suppliers are not in a position to provide all the required test results and MSDS on the materials and components the producer of electric and electronic equipment must conduct all the required tests and analyses during incoming inspection. SMEs: SMEs supply material and components as well as packaging material for the final product. Information on EQI issues and technical regulations are provided by the buyer. Conclusions: Purchasing plays an important role with regard to quality, safety and environmental specifications of products and packaging. Non-conforming raw materials will result in non-compliant end products. Electronic companies try to monitor and control the supply chain to ensure conformity with all product and packaging specifications. Step 3 Incoming Inspection The level of effort required to undertake incoming inspections of raw material and components for production depends to a large extent on the reliability of suppliers and their capability to provide the required records and documentation on material and components supplied. All producers try to limit incoming inspection efforts to a minimum in order to save cost. Therefore, it is common practice to select and supervise suppliers that can ensure the desired quality including safety and environmental issues and provide the required documentation. For materials and components purchased from

102 190 such suppliers incoming inspection efforts are reduced to a visual check and count combined with an evaluation of the documentation provided. Occasional sampling and testing may be conducted as a mean of supplier evaluation. In cases when supplies have to be purchased without the required documentation, the producer is obliged to conduct an extensive incoming inspection and testing in accordance with accepted sampling methods. The sampling must be performed using valid statistical methods and the subsequent tests on safety and environmental issues may even require destructive analyses resulting in total loss of the samples. Step 4 Assembly Process Description: During the assembly phase materials and components are assembled to produce the final product. In-process quality control steps are required, particularly with regard to electrical safety. EQI Issues: During assembly, in-process control has to be performed at all relevant or critical phases. Particular attention has to be paid to areas with high voltage components and earthing Quality management systems such as ISO 9001 are often implemented and maintained to achieve reliable process control. During assembly no particular control measures are applied with regard to EMC and environmental aspects (RoHS & WEEE) as these issues have been considered and controlled during design, purchase and incoming inspection. Conclusion: Quality aspects are controlled in assembly according to a quality plan that defines the required control and test methods at relevant steps in the process. Quality management systems (usually based on ISO 9001) are applied to ensure that all elements of quality planning, testing and recording are properly applied. Step 5 Final Inspection and Packaging Process Description: Final inspection is the last step in the value chain before the product is packed and shipped. During final inspection the performance of all the required functions of the product are checked according to specifications. Tests concerning electrical safety and environmental compliance are not usually performed as these aspects have been covered in earlier stages. The products are then packed and supplied with user manuals. Packaging material is divided in three categories (a) sales packaging or primary packaging, (b) grouped packaging or secondary packaging, (c) transport packaging or tertiary packaging. For exports to the European Union the EU directive 94/62/EC on packaging and packaging waste is applicable. The EU directive concerns the management of packaging and packaging waste with a first priority on the prevention of packaging waste. Additional fundamental principles of the directive are the reuse of packaging, recycling and other forms of recovering packaging waste and, hence, the reduction of the final disposal of such waste. To facilitate collection, reuse and recovery including recycling, packaging must indicate the nature of the packaging material(s) used. Packaging must bear the appropriate visible marking on either the packaging itself or on the label. EQI Issues: During the final inspection the appearance and all the desired functions of the product are checked according to specifications. Tests with regard to electrical safety and environmental compliance are usually not performed as these aspects have been covered in earlier stages. The packaging material must ensure that the product cannot be damaged. For export into the European Union the packaging material must comply with EU directive 94/62/EC on packaging and packaging waste Conclusions: Final inspection does not require extended testing since all relevant aspects concerning safety and environmental issues have been completed in earlier phases of the production process. Step 6: Placing the Product on the Market Process Description: Before placing any electric and electronic equipment on the market the

103 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 191 producer is obliged to demonstrate the compliance of the equipment with all applicable regulatory requirements. This process requires type approval on design and finished product, compliance of components and materials used, marking of the product and packaging material. EQI Issues: Before placing a new product on the EU market all applicable requirements of regulations have to be fulfilled. These requirements apply to importers and also to producers within the European Union. The most important regulations are described in the following sections. C Safety Standards Low voltage electrical equipment to be placed in EU markets has to be in compliance with the requirements of directive 2006/95/EC to ensure the safety of persons, domestic animals or property 132. The directive covers products such as electrical appliances, lightning equipment, electric wiring, appliance couplers and cord sets, and electrical installation equipment. The Member States have to ensure that only products that have been constructed in accordance with good engineering in safety matters may be placed in the market. The CE conformity marking must be affixed by the manufacturer or his representative in the European Union to the electrical equipment and/or packaging or guarantee certificate. The CE marking is explained below. The main elements of the safety objectives for electrical equipment designed for use within certain voltage limits include: The equipment and its components must be made in such a way that they can be safely assembled and connected Persons and domestic animals are protected against the danger of physical injury or other harm which might be caused by direct or indirect contact No danger can be caused by temperature or radiation Persons, domestic animals and property are protected against non-electrical dangers caused by the electrical equipment Sufficient insulation The electrical equipment must be resistant to mechanical and non-mechanical influences (such as environmental conditions) in such a way that no persons, domestic animals and property could be endangered The electrical equipment shall not be a danger in the event of foreseeable overload. The technical specifications to meet these requirements are not described in the Directive itself. However, products can be assumed to conform to the directive when they have been manufactured in accordance with the harmonized standards of the European Committee for Electro-technical Standardization (CENELEC)133 In the absence of harmonized standards, the international rules of the International Electro-technical Commission (IEC) 134 can be applied. C Marketing Requirements for Electrical and Electronic Equipment In order to prevent production and disposal of hazardous waste and to promote reuse, recycling and other forms of recovery of such waste the European Union has established two directives; (RoHS) on the restriction of hazardous substances and (WEEE) waste electrical and electronic equipment. Equipment falling under these directives are: large household appliances (such as refrigerators, washing machines, dish washers, cooking, microwaves, and air conditioners); small household appliances (such as vacuum cleaners, irons, toasters, coffee machines); IT and communication 132 The following is derived from directive 2006/95/EC of the European Parliament and the Council. In this directive low voltage electrical equipment (and components to be incorporated into other equipment) is defined in Directive as with a voltage rating between 50 and 1000V for alternating current and between 75 and 1500V for direct current 133 See See

104 192 equipment (such as computer, printer, notebooks, facsimile machines, telephones, cellular phones; consumer equipment (such as radio, television sets, and video recorders); lightning equipment; electrical and electronic tools (such as drills and saws); toys; medical devices; monitoring and control instruments (such as smoke detectors and thermostats); automatic dispensers (such as drinks machines and ATMs). Restrictions of hazardous substances (RoHS 135 ): The objective of this directive is to restrict the use of hazardous substances in electrical and electronic equipment and to contribute to the protection of human and animal health and the environment. This directive was adopted as a complementary measure to the WEEE directive to minimize the waste by restricting the use of hazardous substances. The protection shall be achieved by environmentally sound recovery and disposal of equipment. Household electrical and electronic equipment and electric light bulbs and luminaries placed on the market shall not contain lead, mercury, cadmium, hexavalent chromium, polybrominated biphenyls (PBB) or polybrominated dephenyl ethers (PBDE) in amounts exceeding 0.01 percent by weight for cadmium and 0.1 percent by weight for all other substances. Waste electrical and electronic equipment (WEEE) 136 : The amount of WEEE generated in the European Union is growing rapidly. The content of hazardous components in electrical and electronic equipment is of major concern during the waste management phase. The main purpose of this directive is the prevention of waste electrical and electronic equipment (WEEE) and, in addition, the reuse, recycling and other forms of recovery of such wastes to reduce the volume of waste to be disposed. The directive encourages the producer at the design stage to consider the reuse, repair, possible upgrading, disassembly and recycling of the product. Producers shall not prevent WEEE from being reused. Importers must set up individual or collective systems for the collection, treatment and recovery of WEEE and meet certain recovery targets. The recovery rate targets depend on the product categories and are in the range of 70 percent to 80 percent. Importers must provide a guarantee when placing a product on the market showing that the WEEE management will be financed and that the producers have clearly marked their products. Importers must provide information for users and treatment facilities on re-use and treatment latest one year after placing the new product on the market. Importers also have to register with the competent authorities and have to adhere to data reporting obligations related to the amount of EEE put on the market and the level of recycling achieved. C Labeling for Household Appliances Household appliances marketed in the European Union must comply with the general labeling requirements of the Council directive 1992/75/EEC. All refrigerators, ovens, washing machines, freezers, water heaters, and hot water storage appliances, lighting sources and air conditioners have to be accompanied by a label and a fiche. The label conveys information on the energy efficiency of the model. The information must include data on the manufacturer and the model of appliance, the energy efficiency class, average consumption in kwh/year, specific data according to the type of appliance and the noise level. The label has to be supported by an information fiche. This fiche has to provide basic data relating to the particular model of appliance and must be included in all product brochures. The responsibility to provide the label and the fiche lies with the manufacturer, importer or authorized representative in the European Union. 135 The following is derived from Directive 2002/95/EC of the European Parliament and of the Council of 27 January 2003 on the restriction of the use of certain hazardous substances in electrical and electronic equipment 136 The following is derived from Directive 2002/96/EC of the European Parliament and of the Council of 27 January 2003 on waste electrical and electronic equipment (WEEE)

105 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 193 C EMC Directive The EMC directive sets the essential requirements to ensure equipment complies with an adequate level of electromagnetic compatibility. Electromagnetic compatibility means that a piece of equipment functions satisfactorily in its electromagnetic environment without introducing intolerable electromagnetic disturbances to other equipment in that environment. The equipment must be designed and manufactured to meet two protection requirements: (1) the electromagnetic disturbance generated by the product must not exceed the level above which radio and telecommunications equipment cannot operate and (2) the product has a level of immunity to electromagnetic disturbance to be expected, which allows it to operate without unacceptable degradation of its intended use. Compliance of the equipment with these requirements must be demonstrated by a conformity assessment. This conformity assessment must take into account all normal intended operating situations. The manufacturer has to establish technical documentation providing evidence that the product conforms to the requirements of this directive. The manufacturer must hold this documentation available or representative for at least ten years after the product was last manufactured. The manufacture or its representative must also provide a declaration of conformity. The manufacturer must ensure that the products are all manufactured in accordance with the technical documentation. The technical documentation has to be presented to a notified body for assessment. The notified body reviews the technical documentation to establish whether the documentation properly demonstrates that the requirements of the directive have been met. If the product is in compliance, the notified body issues a statement confirming the compliance of the product. The technical documentation must include a description of the apparatus and evidence of compliance with the standards and the statement from the notified body. The declaration of conformity must include a reference to the directive, identification of the apparatus, identification of the manufacturer or representative, reference to the specifications, date and signature of responsible person. C CE Marking The CE mark affixed on the product is the manufacturer s or importer s declaration on conformity with the European Union regulation. 137 The marking does not provide information on the origin and does not mean that the product was manufactured in the European Union. CE stands for Conformité Européenne, a French term that can be literally translated into English as European Conformity. If the CE marking is affixed to a product the competent authorities must assume that the product meets the essential safety requirements of the directive(s) and the product can therefore freely circulate within the European Union. CE marking applies to most products in the European Union. All electrical equipment marketed in the European Union must be provided with a CE conformity marking, which attests the full conformity of the product with the relevant directives ( Low Voltage (73/23/EEC), EMC (89/336/EEC), RoHS (2002/95/EC) and WEEE (2002/96/EC) ). If conformity is established, the CE marking must be affixed to products before they are placed on the market.. If the CE mark is placed on the product it means that the product is safe and its safety has been verified. To affix the CE marking on the product the manufacturer has to provide a conformity declaration and technical documentation. The conformity declaration has to include information on the identification of the product and the manufacturer or representative, reference to the directives and to standards or other technical documents. If a notified body must be involved in the process, the body has to be named in the declaration. The technical declaration must include the product identification, technical description of the product, directions for handling and use of the product, design and drawings, test 137 Council Decision 93/465/EEC lays down the conditions for the usage of the CE mark.

106 194 reports and examination results. This documentation, together with the declaration of conformity, must be kept available for inspection by the competent authority for a period of ten years after the product was last manufactured. The process to achieve the CE mark documentation includes the following steps: (1) identification of all applicable directives and standards, (2) conformity assessment by evaluating the product against the requirements of the directive(s) and standard and recording of the results, (3) preparation of the technical documentation, (4) preparation and signing the declaration of conformity and (5) affix the CE marking. The CE marking is not a marketing tool and the information on conformity is solely meant for the authorities and not for the consumer. Market surveillance authorities are responsible for verifying whether a product placed on the market meets the requirements of the European Union directives. The authorities can examine the self-declaration and the technical documentation and can also take samples. If the assessment of the product results in a decision that a product does not comply with the requirements, measures can be taken against the manufacturer or distributor. Such measures may include the banning of the product, a product recall, a warning notice and substantial fines. C Post Market Surveillance Information on dangerous products can come from market surveillance of the member states and from the producer or distributor. EU member states have to perform market surveillance in their countries. They have to ensure that only products that conform to EU requirements are sold on the market. Appointed inspectors perform market surveys in outlets and warehouses to verify compliance of the product with all composition, packaging and information requirements. C Testing Laboratories There are several laboratories in Indonesia that can provide testing on electric and electronic equipment. B4T: B4T (Balai Besar Bahan dan Barang Teknik) 138 provides testing in accordance with (1) IEC standards for low voltage appliances, (2) EMC requirements and (3) RoHS requirements. At present B4T is able to test TV sets, irons, pumps, self-ballast lamps and TV components for IEC requirements. Recently B4T installed a new EMC laboratory and provides testing to the requirements of EMC standard. B4T is also able to test heavy metals for RoHS. However, testing of polybrominated biphenyls (PBB) or polybrominated dephenyl ethers (PBDE), which is also required for RoHS testing, has to be subcontracted to other laboratories. BPMBEI: The laboratory BPMBEI (Balai Pengujian Mutu Barang Export dan Impor) provides testing in accordance to IEC standards for self-ballast lamps for general lighting service and dry-cell batteries. Sucofindo: Sucofindo provides testing for household goods (vacuum cleaners, electric irons, washing machines, kitchen machines, water heaters, hair and skin appliances, refrigerators, air conditioners, water pumps, and electrical fans) and for INST (plugs, socket outlets and switches). BARISTAND-MOI: (Balai Riset dan Standardisasi-Ministry of Industry) in Surabaya conducts testing on certain elements of the CB scheme in cooperation with B4T. Balai Besar Teknologi Kekuatan Struktur B2TKS- BPPT: The Center for technical structure testing B2TKS of BPPT (Badan Pengkajian dan Penerapan Teknologi) conducts RoHS testing. Proficiency tests: Inter-laboratory proficiency testing is a tool to establish traceability among the test results of laboratories and ensures that tests conducted in different laboratories lead to the same results within defined parameters. Therefore, proficiency tests are an important tool for quality assurance in laboratories. 138 See

107 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 195 B4T is conducting proficiency tests on selected methods for the laboratories of other service providers and the industry in Indonesia. In order to ensure traceability to international laboratories it is required that B4T participates in international proficiency tests to ensure its own reference results. C IEC System for Conformity Testing and Certification of Electrical Equipment The International Electro technical Commission (IEC) is the international standards and conformity assessment body for all fields of electro-technology. The IEC System for Conformity testing and Certification of Electro-technical Equipment and Components (IECEE) operates the certification bodies scheme, better known as the CB Scheme. The system aims to facilitate international trade in electrical equipment by setting up a mechanism of international recognition of National Certification Bodies (NCBs), turning these into a convenient choice for manufacturers and other potential users of their services. The CB scheme is the only internationally recognized scheme for safety of electrical equipment used in homes, workshops and similar locations. The scheme allows the reciprocal recognition of test results among all participating certification bodies. The products are tested to IEC standards with provision for supplementary testing for national differences. The National Standards of the member country must be reasonably harmonized with the corresponding IEC Standards for which participation in the CB Scheme is desired. Advantages of the IECEE CB Scheme are: The company can select and deal with one NCB of their choice More rapid testing and certification More universal product recognition Acceleration of Product Acceptance Reciprocal recognition in participating certification bodies Direct acceptance by Authorities in many countries Direct acceptance by Retailers and Buyers Increased market opportunities Lower prices for certification and testing in Indonesia Faster product movement from factory to markets The scope of the IECEE CB scheme includes 19 product categories such as information technology and electronic equipment, household equipment, medical equipment, lighting, EMC and Photovoltaic. Household appliances, office and IT equipment and electronics / entertainment account for 60 percent of certifications. The NCB (National Certification Body) is responsible for recognizing and/or issuing CB Test Reports (CBTR) and CB Certificates. A National Certification Body (NCB) is a certification organization that grants nationally recognized conformity certificates for electrical products. To be accepted as a member of the CB Scheme, a NCB must meet specified requirements with regard to its internal quality system and technical competence. Experts from NCBs already recognized in the CB Scheme will assess each NCB applying for membership. A CB Testing Laboratory (CBTL) is a laboratory recognized in the CB scheme to conduct testing and issue CB test reports in one or more product categories under the responsibility of the identified NCB(s). CBTLs may operate in the scheme for different NCBs with which they are associated. The laboratory shall either be an integral part, (such as a department, division, branch or subsidiary) of that issuing and recognizing NCB, or be under the complete technical and legal control of that issuing and recognizing NCB, or have a written agreement with that issuing and recognizing NCB clearly outlining the commitment, duty and responsibility of both parties to follow these rules. The competence of the testing laboratory has to be demonstrated by assessment. Samples of the product are taken and assessed for conformity by the Certification Body (NCB) and tested by the CBTL in accordance with IEC standards. The sampling must be representative the

108 196 entire product family. The test report will be evaluated by NCB, a decision made about conformity, and a certificate of conformity granted (CB Test Certificate) for each product represented by the sample. This certificate allows the company to label its product with the national mark i.e. SNI in Indonesia. A company that would like to export its products would then contact a CB in the destination country i.e. Germany. The CB there will issue a certificate based on the documents (CB certificate and test results) in a very short time, which will allow the company to use the national mark of the destination country (i.e. Germany). ASEAN is now implementing an IECEE CB scheme based on an ASEAN sectoral agreement on electrical and electronic products ASEAN EE MRA and ASEAN harmonized electrical and electronic equipment regulatory regime (AHEEERR). AHEEERR will start on the The objective of the AHEEERR is to come to a production-based control scheme in the ASEAN single market for electric and electronic products. C Indonesian Situation Under the coordination of the BSN, Indonesia is currently preparing a selected group of test laboratories and certification bodies for the CB scheme. Sucofindo was the first Indonesian laboratory (CBTL) and certifier (NCB) listed by IECEE in 2009 for the scope INST (plugs and socket outlets, switches) and HOUS (vacuum cleaners, electric irons, washing machines, kitchen machines, water heaters, hair and skin appliances, refrigerators, air conditioners, water pumps and electric fans). Pusat Pengujian Mutu Barang (PPMB) and the laboratory BPMBEI have already been assessed and will shortly be listed for LITE (self-ballast lamps) and BATT (dry cell batteries). The product certification body LSPro of PUSTAN (Pusat Standardisasi Nasional) in the Ministry of Industry is currently preparing for the CB scheme and will seek assessment as NCB with the laboratories Baristand Surabaya and B4T Bandung as CBTL for the scope of LITE (self-ballast lamps), HOUS (water pumps and irons) and TRON (audio, video) before the end of Three other laboratories, namely BSMTP-LIPI (Pusat Penelitian Sistem Mutu dan Teknologi Pengujian) and laboratories of the private companies Polytron and Panasonic are also participating in Indonesia s set up of a CB scheme network. Conclusions: The main issue on the supply side is the international recognition of certification and testing. Electronic goods exported to the European Union have to fulfill the CE requirements, which require certification and various tests. Although many international and national companies produce electronic products in Indonesia, only one Indonesian service provider (Sucofindo) is internationally recognized at present as certification body and supporting laboratory. The scope of products for which this institution has been accredited is limited to three product groups (out of 19). Indonesia has an urgent need to increase its number of certification bodies and laboratories with international recognition. The only scheme for international recognition in the electronic industry is the CB scheme. Under the coordination of BSN, Indonesia is currently preparing a selected group of test laboratories and certification bodies for the CB scheme. The successful application will reduce the cost and time of certification. Currently multinational service providers such as SGS, Intertek, Bureau Veritas, Loyds, TÜV Rheinland, TÜV Nord, and TÜV Süd with branches in Indonesia serve the industry with testing and certification since they are EU recognized notified bodies. Due to the fact that these multinational service providers do not operate their own laboratories in Indonesia they have to use existing laboratories of their respective groups in other Asian or European countries. This constellation leads to comparatively long processing time and high cost.

109 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 197 C.3.3 Industry Support Services There are several government and private sector institutions supporting the Indonesian electronic industry. The Ministry of Industry supports the companies with training and information dissemination. The National Standardization Agency (BSN) develops national standards, mostly based on or adopted from international standards. However, some Indonesian standards SNI are based on international standards but modified to specific Indonesian conditions and requirements, and certain standards are developed entirely new. Furthermore, research centers such as B4T, universities, and other R&D institutions develop technologies and standards. In the electronic industry the supply chain is controlled by the large international companies, which control the value chain from the beginning to the end. The information on quality, safety and environmental issues related to the products are conveyed to their suppliers by these large companies who forward the required information to their own suppliers. Sometimes the large companies keep contact, not only with its direct suppliers, but with the whole supply chain to ensure the specifications of the material purchased. There are two associations for the electronic industry in Indonesia, the Indonesian Electronic and Electrical Household Appliances Industrial Association GABEL (Gabungan Industri Elektronika dan Alat-Alat Listrik Rumah Tangga) and the Association of Electric Goods and Services ABE (Asosiasi Perusahaan Jasa dan Barang Teknik Elektronika). Neither associations maintain websites as tools for information sharing and do not appear to be very active. B4T: Balai Besar Bahan dan Barang Teknik (B4T) is an industrial research center of the Ministry of Industry and provides services for the industry and the Government on testing, calibration, technical inspection, certification, technical training and research. B4T has good relationships with the electronic industry and provides services such as conducting tests on electronic products and components, providing training for competence enhancement on technical standards and testing methods, delivering dissemination seminars and supporting BSN in developing national standards SNI. B4T conducts testing of televisions, irons and pump devices based on international standards such as IEC, EMC and RoHS. The industry can use this service to fulfill requirements of the local Indonesian market and for internal quality control. B4T aims to become internationally recognized as CBTL within the CB scheme. The Indonesian Government utilizes the testing services of B4T for the testing of products for market surveillance. B4T provides training, workshops and socialization seminars for the industry on technical standards and participates as an information source in many events. B4T also provides training on testing of electronic products to the technical personnel of companies that have their own quality laboratories. Such training also includes testing on safety parameters and hazardous substances. B4T cooperates with private and government owned testing laboratories for quality assurance of electronic products by conducting proficiency tests for testing methods. Conclusions: B4T and other organizations involved in CB scheme can play an important role in the dissemination of information to companies for export purposes. C.3.4 Case Study of Electronic Manufacturer PT Supplier Electronic Indonesia (SEI) is an Indonesian plastic injection molding manufacturer that was established in The company changed name many times; the current name is used since The company, which has 600 employees, is now one of the big players in the Indonesian injection molding industry. SEI processes plastic granules (injection molding) as raw material to become plastic parts for its customers. SEI customers are large electronic and automotive companies such as EPSON, LG, Toshiba, Toyota, Daihatsu, Yamaha, Suzuki, Kawasaki and KMK Plastic, whose products are

110 198 exported to Europe and other destinations. There are two major manufacturing activities in SEI, which are injection molding and painting. The production processes are shown in Figure C3.2. Injection Molding: Injection molding produces parts from both thermoplastic and thermosetting plastic materials. Material is fed into a heated barrel, mixed, and forced into a mould cavity where it cools and hardens to the configuration of the mould cavity. After a product is designed, moulds are made from metal, usually either steel or aluminum, and precision-machined to form the features of the desired part. Printing and Painting: SEI applies paint and printing on the surface of plastic parts by spray painting, silk screening and pad printing. Figure C 3.2. Process Flow Chart in PT Supplier Electronic Indonesia RoHS Specification of Plastic Plastic Packaging RoHS Color for Printing Purchasing of Raw Material Incoming Inspection Production Printing Final Inspection Packaging Transport Electronical Equipment Producer RoHS Packaging Material Color for Plastic RoHS Specification of Color C Quality Assurance The quality policy of SEI is always to be one step ahead of its competitors by producing in accordance with industry standards and by continuously enhancing the quality of the products at competitive prices and to fulfill the diverse range of customers ever increasing requirements. The management policy was developed in order to maintain continual customer satisfaction as the main priority with a commitment to constantly strive for the highest quality. The policy is also intended to achieve individual staff satisfaction at all levels to ensure that quality is inherently built into every process. As part of this management policy good housekeeping should be maintained at all times. Quality Management System ISO 9001 and Environmental Management System ISO are implemented in the company. SEI conducts laboratory testing for impact tests, composition of material and tensile strength. C Traceability in the Supply Chain Compliance with the Restriction on Hazardous Substances (RoHS) directive is the most important requirement of their customers in relation to export to Europe. Figure C3.2 shows that the avoidance of hazardous substances has to be ensured in the purchasing process. All raw materials purchased and used in the products have to be in accordance with RoHS specifications. SEI ensures that by putting this requirement into each purchasing contract. EPSON, the largest customer of SEI, controls compliance with RoHS requirements in two ways: they perform supplier audits with SEI and they approve the plastic and color suppliers of SEI. EPSON conducts audits at SEI every six months of the quality management system, environmental performance, RoHS, safety management system, and social accountability. In addition, EPSON also ensures that SEI s suppliers are traceable and follow EPSON standards. EPSON requires SEI to cooperate only with those suppliers that have been approved by EPSON such as Dow Chemicals. The RoHS requirements also have to be ensured for packaging material used by SEI products that are exported directly to the European Union.

111 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 199 In addition, SEI performs tests on RoHS requirements every six months even though the customer does not request them. SEI usually subcontracts its external RoHS testing to Sucofindo or Sentra Teknologi Polymer of BPPT. C Lesson Learned from SEI s Experience The best way to ensure compliance with specifications is to control the entire supply chain. Electronic assembly companies must ensure compliance with the requirements of the destination countries. The companies achieve this by controlling their suppliers. Therefore, the capability of manufacturers producing plastic and electronic components, which meet the stringent specifications and performance requirements of the electronics industry such as RoHS, create an important competitive advantage. The suppliers to the electronic assembly companies become a part of the controlled supply chain and have also to control their own suppliers. A system has to be established to ensure traceability throughout the entire supply chain. Good cooperation, knowledge sharing and clear communication of requirements to the supplier have to be maintained and become part of the system. C.3.5 Regulatory Framework Government Strategy: The Government has not developed a vision and strategy for the electronics industry. Instead, it relies on fiscal and non-fiscal incentives to promote the industry. The existing -policies include measures that were expected to promote the competitiveness of Indonesia electronic industries including: Fiscal Incentives: Fiscal incentives are covered under Commercial Ministry Decree No. 137/ PMK.011/2008. Incentives are provided for the following: (a) industries with Pioneer Status, i.e., high technology companies; (b) infrastructure-related industries; (c) industries involved in the preservation and protection of the environment. Non-Fiscal Incentives: Non-fiscal incentives are also covered under Commercial Ministry Decree No. 137/PMK.011/2008 for (a) quality control services facility; (b) laboratories facility; (c) credit schemes; and (d) standard and certification (Standar Nasional Indonesia(SNI). Export Processing Zone (EPZ): EPZ s in Indonesia are concentrated in two main areas: (a) the Kawasan Berikat Nasantara KBN on the outskirts of Jakarta; and (b) an area in Batam Island in the Riau Islands Province of Indonesia. The Batam EPZ was developed with investment mainly from Singapore. The most important industry located there is that of electronics, followed by precision parts. Although its location provides the Batam EPZ with a large potential for investment in consumer electronics, it suffers from legal uncertainty, labor issues, and poor infrastructure. Labor issues relate to the problems with the minimum wage, severance pay and labor unions, while infrastructure conditions are poor in the areas of road quality and electricity. 139 These constraints make competing areas in nearby countries more attractive, notably, the Iskandar Development Region (IDR) in South Johor, Malaysia, as well as Vietnam and China. 139 See Wong Poh Kam and Ng Kwan Kee, Batam, Bintan and Karimun Past History and Current Development : Towards Being A SEZ. Asia Competitiveness Institute, National University of Singapore, August Available: research_outputs/bbk_past_history_and_current_development_towards_being_a_sez_24aug09.pdf

112 200 C.4 Summary and Conclusions The European Union is a net importer of electronic components and imports US$280 billion worth of electronics products annually. Year-to-year variations in imports have, however, been large because of their large responsiveness to income changes. Requirements to access the EU electronics market mainly relate to (i) the International Electrotechnical Commission (IEC) regulations for safety; (ii) EC regulations on Electro Magnetic Compatibility (EMC); (iii) Restriction of Hazardous Substances (RoHS); and (iv) Waste Electrical and Electronic Equipment (WEEE) regulations for the environment. The European Union is Indonesia s largest export market for consumer electronic products. Within that market, Germany, Netherlands, Belgium and the United Kingdom are the largest imports. Although there is considerable diversification of the types of products imported by EU member countries, Indonesia s exports remain heavily concentrated in a few basic types of products. Nonetheless, electronics is Indonesia s largest contributor to foreign exchange earnings from manufactured exports. It accounts for nearly one-fifth of total manufacturing exports, with consumer electronics leading industrial electronics by a two-to-one ratio. Development of the industry dates back to the 1970s when Japanese established joint ventures with Indonesian firms to access the domestic market in the period of import-substitution policies. When Indonesia adopted an export-oriented industrialization strategy in the 1980s, foreign electronics companies designated the country as one of their export bases, as a means of exploiting the low production costs in the country. In recent years the industry has experienced strong but uneven growth. The industry s output has begun to surge again as multinational electronics enterprises relocate from China in response to rising labor costs in that country. These large output variations in the Indonesian electronics industry have impacted on the growth and employment of other sectors. The effect has been particularly large because of upstream and downstream linkages to input activities and service-related industries. The main supply-side challenges for Indonesia s electronics industry are as follows: Laboratories for Electrical Safety (CB scheme): The main issue on the supply side is the international recognition of certification and testing. Electronic goods exported to the European Union have to fulfill the CE requirements which require certification and various tests. The only scheme for international recognition in the electronic industry is the CB scheme. Indonesia is currently preparing a selected group of test laboratories and certification bodies for the CB scheme. The current preparation does not cover the entire CB scheme but is limited to a selected group of product categories. Laboratories for RoHS and EMC: Electronic goods exported to the European Union have to fulfill the RoHS and EMC requirements, which require certification and various tests. Testing and certification in accordance with the EU directives for RoHS, WEEE and EMC are not covered in the CB scheme. At present Indonesian laboratories are not capable of providing comprehensive testing in accordance with these directives. Laboratories for Packaging: For export to the European Union packaging must comply with the EU directive 94/62/EC on packaging and packaging waste. It contains provisions on the prevention of packaging waste, on the re-use of packaging and on the recovery and recycling of packaging waste. To facilitate these provisions, the total concentration levels of lead, cadmium, mercury and hexavalent chromium present in packaging material, or packaging components, shall not exceed 100 parts per million by weight. In order to ensure that these requirements are met laboratory testing is required. It appears that Balai Besar Kimia dan Kemasan (BBKK) faces difficulties in conducting these analyses with the required detection limit (lowest concentration to be detected), especially for hexavalent chromium. Proficiency Testing: Inter-laboratory proficiency testing is a tool to establish traceability among the test results of laboratories and should ensure that tests conducted in different laboratories lead to the same results within defined parameters. Therefore, proficiency tests are an important tool for quality assurance in laboratories. B4T is conducting proficiency tests on selected methods for Indonesian laboratories of other service providers and industry. However, B4T identified the need to extend its services to the sector to include new product types.

113 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 201 In view of these challenges, the study team can suggest that GOI and donor support actions be oriented towards the following broad action areas: (i) strategy and action plan for consumer electronics industry; (ii) support for industry s upgrading to more sophisticated production activities; (iii) export processing zones; (iv) EU-ASEAN/Indonesia trade enhancement impact; and (v) testing laboratories for electro and electronic companies.

114 202

115 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 203 D. furniture

116 204

117 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 205 D.0. Executive Summary The European Union has a fast growing market for furniture. Demand for third country imports of furniture has expanded by an average of 8 percent a year in the last decade, and it is expected to accelerate to 9 percent a year over the coming decade. The main requirement for EU market access is the regulation that all wood-products will be required to be accompanied by information about the origin and legality of the wood contained in the product. This regulation will come into effect at the end of 2012 under the Forest Law Enforcement Governance and Trade (FLEGT) The Indonesian furniture industry has an opportunity to improve its presence in two market segments of the European Union. The first is ready-to-assemble furniture for the low-end market, which is composed of low-price products suitable for mass consumption; the other is artisanal furniture made of solid wood, which is destined for the high-end market. Medium to large size enterprises have the production and networking capacity needed to fabricate ready-made furniture, while smaller producers have the skills and know-how to make traditional and artisanal furniture. Using those capabilities to expand exports to the EU market in a substantial way will require that the industry and the Government adopt measures aimed at overcoming existing constraints, especially in the area of export quality infrastructure (EQI). To date, those constraints have been especially detrimental to Indonesia s competitiveness relative to large furniture suppliers like China, Vietnam and Malaysia, as well as major producers within Europe like Germany, Italy and Denmark. The challenges to realizing Indonesia s export potential are largely concentrated in supply-side constraints of the furniture industry. Production costs and exchange rate pass-through into the export price of Indonesia in the EU market have, at times, significantly impacted trade. However, on average, that impact has been less than expected with competitors like China and Vietnam. Instead, it is non-price factors that have consistently undermined Indonesia s exports to the EU market, a situation that has lowered buyer perceptions about Indonesian furniture quality, design and delivery reliability. Non-price constraints on Indonesia s exports can be grouped into four categories: (1) supply-chain weaknesses in both internal and external production processes affecting quality levels; (2) the large number of micro and small scale enterprises (MSEs) operating in the industry that lack networking capabilities able to provide direct export services to foreign markets; (3) weak institutional support

118 206 from both business organizations, and the Government s lack of a well-defined strategy and action plan for the industry; and (4) EU market access challenges under the FLEGT, which could be facilitated by the successful negotiation of a Voluntary Partnership Agreement between Indonesia and the European Union. Efforts to remedy these impediments will require concerted action on three fronts: (i) quality and design improvements in the production process; (ii) marketing efforts to improve buyer perceptions and accessibility to Indonesian furniture; and (iii) strengthening support for the furniture industry. Compliance with new regulations concerning legality and with market expectations concerning sustainability are also a topic to be addressed.

119 INDONESIA TRADE ACCESS TO THE EUROPEAN UNION: OPPORTUNITIES AND CHALLENGES 207 D.1 Introduction D.1.1. Objective and Coverage The present Annex on wood-based furniture contributes towards the study on Indonesia s Trade Access to the European Union: Opportunities and Challenges by providing a self-contained analysis of the industry and its export potential in the EU market. It has three specific objectives. First, it seeks to identify Indonesia s export opportunities in the EU furniture market based on the industry s competitiveness and market growth prospects. Secondly, it identifies challenges to the realization of Indonesia s export potential in terms of EU market entry requirements, export quality infrastructure (EQI), the conduciveness of its trade policy, and support provided to the industry. Finally, it points out a few general recommendations on actions that support the achievement of the industry s export potential to the EU market. The annex consists of the following parts: Chapter D1 presents an overview of the furniture subsector in terms of its importance to the Indonesian economy and the pattern of its export development. It also covers the strengths, opportunities, weaknesses and threats (SWOT) facing the subsector s development, especially as it relates to Indonesia s exports to the EU market. Chapter D2 analyzes the European Union s furniture market and Indonesia s competitiveness in that market. It begins by examining the furniture market in the European Union and assessing its growth prospects. It then examines the major factors determining Indonesia s competitiveness relative to other developing country exporters in the EU market. The chapter ends with an analysis of the relative importance of price and non-price factors in explaining Indonesia s changing market shares in the EU market, and how remedial actions addressing non-price factors could impact on Indonesia s export prospects. Chapter D3 covers EU market access requirements and existing conditions in the Indonesian furniture industry. It examines internal and external constraints along the value chain, especially for small and medium size enterprises (SMEs), the existing EQI system in the industry and support services being offered to enterprises, and trade policies and regulations affecting the industry. Chapter D4 presents a summary of the findings on the Indonesian furniture industry, and it draws on this information to recommend specific actions needed to fully realize the country s export potential in the EU furniture market. D.1.2. Importance of the Industry Wood-Based Manufacturing Activities: Furniture is part of the wood and wood-based products sector, which consists of a range of products generally classified according to degree of processing or value added to the products within the industry (see Figure D1.1). 140 At the lower end of the value added scale, Indonesia mainly produces industrial roundwood, veneer and plywood panels. Industrial roundwood alone accounts for over one-half of the total volume of low-processed, nonfurniture wood products in Indonesia. 141 These semi-processed products are closely linked to the country s resource endowment and are increasingly governed by forest management policies and regulations. In moving up the value chain, the importance of resource endowments are superseded by labor cost factors and Indonesia s endowments of skilled labor. The furniture industry is composed of craft-based firms and large volume enterprises. The proliferation of ready-to-assemble furniture has stimulated the development of mass producing furniture companies targeting large local and export low- to medium-price markets. Indonesia s solid wood furniture manufacturers supply important niche market segments for high-end products. Mass 140 Throughout this report,, the term industry and sub-sector are used interchangeably and both refer to a subset of activities of the sector to which the industry belongs. 141 Based on data available from United Nations Food and Agriculture Organization (FAO). Available: country/57025/en/idn/

120 208 production of furniture requires relatively low skills levels and provides smaller value to the consumer than the traditional and artisan furniture obtained from Indonesian craftsmanship. Traditional Indonesian furniture is usually made of teak and tends to be intricately ornamented. There is also a wide range of modern furniture being produced from local tropical woods, for example, bamboo, rattan and teak. Growing Importance of Furniture Industry: Indonesia s furniture industry has been one of the fastest growing manufacturing activities in the country. In the last decade it has expanded at an average annual rate of 21 percent, far surpassing the 15 percent average growth of country s overall manufacturing activity (Table D1.1). Moreover, Figure D 1.1. Characteristics of Indonesia s Wood-Products Sector Semi- Processed Woods (industrial roundwood, plywood) Natural Resource intensive Economies of scale Unskilled labor intensive Finished Wooden Parts (moldings, joinery) Serial Furniture & Components Processing Characteristic High volume Mass production Semi-skilled labor Quality Controls Mass production Higher skilled labor Traditional & Modern Furniture Artisanal Furniture Skilled crafts-persons Small volume Targeted market while the furniture industry has steadily grown, the value added of wood and other wood product activities to the economy has fallen in all but one year. As a result, the furniture industry s contribution to the total value added of wood-based manufacturing activities has grown from less than onequarter at the beginning of the decade to more than one-half of all wood-based manufacturing activities. Table D1.1. Indonesia Manufacturing of Wood and Wood Products, (percent) Value Added Very high High Medium Low Furniture Share of All Wood Manufactures Others Total Furniture Share of All Manufacturing Others Total Furniture Annual Growth Rate of Value Added Other Wood Products Total Manufacturing % 77% 100% 2.0% 6.8% 8.8% na na na % 76% 100% 2.0% 6.1% 8.1% 14.7% 5.4% 16.3% % 73% 100% 2.1% 5.6% 7.7% 10.3% -3.8% 5.4% % 71% 100% 2.0% 4.9% 6.9% 7.2% -4.6% 9.8% % 68% 100% 1.9% 4.0% 6.0% 5.1% -8.5% 10.5% % 53% 100% 2.5% 2.8% 5.4% 70.2% -8.6% 29.7% % 55% 100% 2.5% 3.0% 5.5% 13.2% 23.2% 16.3% % 46% 100% 2.6% 2.2% 4.8% 25.2% -12.6% 19.3% Note: Furniture production refers to ISIC (rev. 2) classification 36; other wood and wood products refers to ISIC (rev. 2) classification 15. Source: Badan Pusat Statistic, Available: Employment and SMEs The furniture industry currently employs about 750,000 workers, which represents a 25 percent increase in labor absorption since Many of these workers are employed by microenterprises and SMEs that account for roughly 90 percent of the furniture companies operating in the country. 143 Subcontracting arrangements by SMEs to commercial intermediaries are common, and this arrangement has permitted the rapid growth of small enterprises in furniture manufacturing. There is a large degree of informality in the industry, with 142 Based on data provided by Ministry of Industry. 143 Under Law no 9/1995, the Government of Indonesia defines SMEs using the following parameters: (a) net assets of less than or equal to Rp 200 million for small size enterprises and greater than Rp 200 million for medium size enterprises; (b) annual sales of Rp 1 billion for small enterprises and Rp 10 billion for medium size enterprises; (c) individual businesses in the form of registered (formal) or unregistered business entities, including cooperatives; (d) ownership by Indonesian citizen(s); (e) independent and unaffiliated with large enterprise(s). Source: IFC, Small Enterprise Development Policies in Indonesia: An Overview. ILO Training Centre, October Available: